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Keep the € or leave the €…

A) Greece keeps € (a new bailout deal is agreed) 50% probability

In Athens, the “cradle of democracy”, the widely held view is Greece must keep the Euro (€). It is easy to see why the “man in the street” wants the € and rejects a return to a soft “funny money” national Greek currency previously known as the Drachma.

It is worth re-examining the key factors that support Greece keeping the €:-

  1. Widespread popular support inside Greece for keeping the €.
  2. Low € interest rates. What confidence would exist in a freshly minted Drachma? None. Hence high interest rates would be required to support a new Drachma. Mortgage rates would surge stifling the recovery prospects.
  3. ECB liquidity access for Emergency Lending Authorisation (ELA). For the banking system to survive in its current form, Greece needs to keep the €
  4. Inflation/ Balance of payments- Greece is import dependent, these current account deficit would be easier to finance with €
  5. Asset prices. What demand would exist for Greek assets in the eyes of the foreign investor if it were denominated in Drachma and not €
  6. Greece has vast external € denominated debt. It might be negotiable if Greece “behaves”. The debt is easier to manage/ reschedule inside the Eurozone.
  7. As long as the € remains, so does the ECB. The reason European countries let go of national currencies is nobody wants to be obliged to support a national currency, its best to let the ECB do the job. If the local currency gets into trouble, then it is the job of the local central bank. With the €, it is the job of the ECB. Greece does not have the FX reserves to defend a new soft currency.
  8. “Prestige”…. what is left of it. Greece deep down, does not want to be the first country to fail the € project.
  9. There is as yet no ‘ejection’ mechanism from the Eurozone. What legal problems might exist? What administrative hurdles exist for a new currency. It might take some time for a new currency system to be developed.

Successive Greek politicians have not explained the need to keep to the Maastrict terms (specifically its 3% budget deficit limit and 60% debt to GDP limit) in order to be Euro compliant. Europe and its institutions have been consistently misrepresented to Greek populations as a hard taskmaster. The fact is Greece was locked out of global bond market, its only source of funds was the Troika.

The truth is Greece has good industries, and plenty of wealthy people. But neither pay much tax. The country is 3.5% of EU government spending but 2% of EU GDP. Over many years the Greek government undertaxed and accumulated significant debt (pre-1999). When Greece joined the Euro, on the basis of lies over its Budget deficit,(read “Bust”, Matthew Lynn) what changed was Greece could borrow cheaply. It then went on a spending spree. Greek governments pursued populist policies that increased debt.

Significant problems crystallise if Greece exits the € and return to the Drachma. Greece would then have to sort out its own problems without the assistance of the IMF and ECB. It would be on its own with a very weak currency and no international support.

Tsipras has wrecked the economy and relations with Europe. Keeping the € is the only reason for Greece negotiating a new bailout deal. A deal is still possible, if the Greek leadership believes it will lose the € – the main incentive for Greece agreeing a bailout is retaining the €. But will Tsipras want to keep the € if it means remaining wedded to the further austerity that a bailout will require? We say a 50% chance at best.

B) Greece exits € – (no new bailout deal) 50% probability

The widely held view is Greek debt is “not sustainable”. Last week the IMF concurred in this view. The terminology is a polite way of stating the country’s debts are overwhelming and creditors cannot expect it to be paid. Greek promises to pay will be reneged on.

But if Greece refuses to pay existing ECB debt, it cannot then continue to receive credit/ new loans/ new emergency lending (ELA). A default needs to be managed and agreed with creditors for it to not be treated as an outright repudiation of all liabilities, a “real” default.

Leaked documents suggest the EU has received a Greek request for debt forgiveness, a “haircut” of 30% of Greek debt is written off or circa another €100bn.

Greece has received “debt forgiveness” before. In the February 2012 bailout about €100bn of privately held Greek debt was written-off. Privately held ie “investor owned” Greek debt was written down by 53.5% but the institutional creditors, the “Troika” (EU, ECB, IMF) did not take a “haircut”. Critics of that deal cited the problem that Greece was still over indebted and would run into trouble if anticipated debt to GDP targets were not met. They were right.

The core issue is assuming another haircut must be applied, what level of haircut is palatable to the EU? If another large write-off is impossible politically, as many leaders have said, then the negotiations are pointless and Greece will head for an exit and a large default that will achieve a large haircut. This might be its real aim to these protracted negotiations.

The fact is the hard left constituency that Tsipras represents is unpredictable and untrustworthy. Neither the Troika nor the EU governments that have provided bilateral loans believe Tsipras will undertake promised reforms. If another €50bn of cash is provided, as the IMF suggests, to tide Greece over 2015/2016, who will want to provide that new funding?

I suspect the EU does not trust the Greek government enough, to provide a further substantial bailout package to prevent a major default, and continue the “extend and pretend” option. At the same time Greece wants to keep the € and rely on ECB funding. But the July 20th the ECB bond payment will present a serious “fork in the road challenge” as the ECB cannot maintain ELA to Greece if it skips that payment.

The EU has now set a very precise calendar for dealing with the Greek problem – a timetable that will force a result after months of protracted and ultimately fruitless negotiations.

Conclusion – UK Blue Chips Oversold Anyway

The UK 100 has reversed 9.2% from its record 7,104 on 27th April 2015. This is in the ballpark of a 10% “correction”. Does the Greek issue deserve a drop of this magnitude in UK equities? This is a moot point. Our sense is this is harsh treatment. It has occurred during a period of low summer liquidity that would exacerbate market volatility.

Leading sector “underperformers” include i) banks ii) travel/ leisure iii) oil/ gas. In each case recent underperformance has also been hit by sector specific factors, including the Tunisian tragedy and weak global crude prices.

We suspect recent extreme losses will be reversed when the Greek issue abates over the summer period. We have based recommendations based on the outcomes presented above (A), (B) but we suggest ONLY undertaking these investments once the outcome to either A) or B) is clear. In the meantime we have selected (c) below as an oversold recovery play.

Coca Cola HBC (CCH) BUY – in the event of A)

Coca-Cola HBC is a large pan EU bottling and packaging co. The bottling/ drinks packaging sector has seen consolidation with Rexam agreeing a buyout deal with US based Ball Corp.

Company Coca Cola HBC
Share Price 1311
Target Price 1500
52 Wk Hi/Low 1480/1057
Shares O/S 364.4m
Market Capitalisation £4.77bn
Avg Daily Volume 574k
Dividend Yield 2.37%

Source; Fidessa plc

Key Catalysts

Coca-Cola HBC is the second largest bottler of the brands of the Coco-Cola Company (NYSE:KO) – it recently changed its name from Coca-Cola Hellenic Bottling Co- the business originates in Greece but is dual-listed (LSE and Athens SE). We expect FY 2015 to see a small reverse on 2014 (sales €6.5bn, net profit €277m; EPS €0.761) with consensus EPS of around 73.3 cents for FY15. We remain encouraged by CCH debt run down in recent years and expect this to be positive for the equity other major factors being equal.

Key Risks to Price Target

i) CCH volume growth is at risk from slower GDP growth in emerging economies

ii) CCH has significant profit exposure to weak currencies in Nigeria, Russia and Eastern Europe.

iii) CCH is listed on the LSE and Athens Exchange and undertakes significant business in Greece hence has significant business exposure to Greece.

COUNTRYWIDE (CWD) BUY –in the event of B)

Countrywide is the UK’s largest estate agent. Brands include Hamptons and Faron Sutaria.

Company Countrywide
 Share Price 528
Target Price 600
52 Wk Hi/Low 599/414
Shares O/S 219.6m
Market Capitalisation £1.16bn
Avg Daily Volume 487k
Dividend Yield 2.79%

Source; Fidessa plc

Key Catalysts

During the 2012 Eurocrisis the London property market saw significant Continental buying interest as investors bought into London property as a good “crisis”/ hedge asset. Ahead of interim results on 30th July we expect CWD’s strong Q1 performance in lettings, mortgage business and valuations to have continued strong offsetting lower numbers for completions. Our expectation is for rising EPS in 2015/2016 with EPS of 41.8p rising to 45.9p in 2016. In our view UK property will continue a solid trajectory irrespective of Greek developments

Key Risks to Price Target

i) Countrywide shop based business is facing challenges from low margin online businesses

ii) Countrywide growth by acquisition model is more difficult given its dominant UK position

iii) Competitive pressures in the traditional business are intensifying due to competitor shop growth

TUI (TUI) BUY –in the event of C)

TUI is the UK’s largest travel agent. Brands include Tui Travel and First Choice Holidays.

Company TUI
Share Price 1004
Target Price 1200
52 Wk Hi/Low 1270/1007
Shares O/S 586.6m
Market Capitalisation £5.9bn
Avg Daily Volume 887k
Dividend Yield 2.82%

Source; Fidessa plc

Key Catalysts

Former Tui Travel shareholders received their new TUI AG shares last December at 0.399x their Tui Travel holding. The UK listing of TUI AG is very new. The stock has lost c.20% since its Q1 strategy update on 13th May due to the Tunisian tragedy and Greek upheavals. In addition the travel sector has oversold the most in the current sell off- TUI is now trading on a sub 10x PE multiple against an average 12.5x PE for Tui Travel (pre December 2014). We suggest TUI has oversold.

Key Risks to Price Target

i) TUI AG operates in a highly competitive sector for travel and holiday.

ii) TUI AG short term sentiment is sensitive to instable conditions in Europe and North Africa.

iii) Further investments in cruising via the Royal Caribbean JV (Tui Cruises) are likely in FY15/ FY16

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