On June 28, debt negotiations between Greece and its creditors broke down.

Now, Greek Prime Minister Alexis Tsipras has called a surprise referendum for July 5 to ask voters to accept or reject the latest bailout measures from the European Central Bank (ECB), the European Union and International Monetary Fund (IMF).

In response, the ECB has capped its emergency liquidity assistance (ELA) at €89 billion (C$122.5 billion)—the level as of June 26. As a result, Greek banks are unlikely to meet continued withdrawals, and the government has shut down banks and limited cash withdrawals until the referendum occurs.

For background on the situation, see below.

What could happen?

With respect to Greece, the best and most likely outcome is for the country to stay in the Eurozone. The issue is highly political and poses great uncertainty in the near term. Polls continue to show that a majority of Greeks support staying in the Eurozone.

The bigger question is how this event will impact global markets.

Compared to May 2010, Summer 2011 and May 2012, when Greece was in trouble, the risk of the debt crisis spreading throughout the world is significantly lower today. Policy makers are more willing and able to act to limit downside risk of any negative fallout.

What is the impact on MD portfolios?

MD Funds have very little exposure to Greece in our actively managed equity funds, except for a 0.5% position in MD Growth. At the portfolio level, direct exposure to Greece is minimal.

In our Canadian bond funds and pools, there is very limited exposure to foreign issues and these are not directly impacted by the Greek events.

We encourage you to continue to maintain a diversified portfolio, work closely with your MD Advisor to monitor your long-term financial plan, and ensure that your strategic asset allocation continues to be appropriate for your financial goals.

Clock is ticking for Greece’s relationship with the EU

June 24, 2015

Time is running out for Greece and its creditors to make a €1.5 billion ($1.7 billion) loan repayment to the International Monetary Fund (IMF). Unless Greece makes the payment, due June 30, the country will likely be considered in default. Under IMF rules, once a payment becomes overdue, a nation immediately becomes ineligible for additional funds until the arrears are cleared. An additional bond repayment is due to the European Central Bank (ECB) on July 20. If Greece unilaterally defaults on its debts, the country could potentially need to leave the eurozone, or the European Union (EU) itself, which would make it the first country ever to exit the EU. Pressure was increased on Greece last week as IMF head Christine Lagarde warned there is “no period of grace” for Greece over its debt repayment at the end of the month.

What could happen

The European Commission, the IMF and the ECB are not willing to provide bailout funds unless Greece agrees to reforms in several areas, including pensions, value-add tax (VAT) and the budget surplus. The ball is now in Greece’s court to reach a deal with its creditors.

There are several potential scenarios, including:

1. No deal is reached. Greece defaults on its repayments, and the ECB cuts off emergency liquidity assistance to Greek banks. This could lead to a run on Greek banks, capital controls and a potential Greek exit from the eurozone and even the EU. Market volatility is very likely in the short term. In anticipation of this scenario, Greek banks have already seen steady deposit outflows which the ECB has so far backstopped with emergency liquidity assistance.
2. Greece agrees to reforms set out by the IMF and ECB, avoiding default and staying in the eurozone and the EU; this could lead to markets rallying in response.
3. No deal, but Greece’s status in the EU remains intact for the short term. Uncertainty will remain until a more durable solution is achieved.

The situation remains highly uncertain, complicated by the fact that decisions are being made from a political versus economic perspective. However, it is worth noting that Greeks overwhelmingly want to remain within the eurozone, so the current government has no popular mandate to see Greece leave. This supports scenarios that include an eventual deal being struck.

If the exit scenario does prevail, Europe should be able to contain the fallout, although there will likely be ensuing volatility. But with the precedent of one weak member having left the Eurozone, the region could become subject to recurring bouts of uncertainty and doubt each time a member state gets into financial challenges.

Market reaction to date

While Greece’s potential default is dominating headline financial news across the globe, market reaction so far has been muted. For now at least, it seems investors have grown accustomed to hearing about Greece’s financial woes. However, there are also fundamental reasons why Greece matters less to financial stability than it did previously, and these reasons help explain the modest contagion seen so far.

In 2011, Greek debt was held throughout the financial system, increasing the risk of losses cascading through a banking system still reeling from the shock of the 2008 financial crisis. The institutional framework within Europe was also less robust at the time. Today, the majority of Greek debt is held by the official sector (IMF, European bailout funds and the ECB) and not private creditors such as other European banks. Further, the European banking system is now far better capitalized, and there are established institutional programs to assist countries facing financial turbulence (e.g. European Financial Stability Fund, Outright Monetary Transactions). Additionally, in 2011 concerns related to Greece quickly spilled over into other European financial markets, particularly those of peripheral Europe (i.e., Italy, Spain, Portugal, Ireland). Since the start of the most recent crisis, non-Greek European equities are actually positive.

Figure 1: European Equity Market Impact, then and now (Source: MDFM, Wilshire Atlas, MSCI)

The impact of Greece on MD portfolios

MD Funds have minimal direct exposure to Greek securities; only MD Growth has direct exposure to any Greek securities, representing less than half a percent (0.5%). At the portfolio level, direct exposure to Greece is minimal.

The economic impact of the potential Greek default remains uncertain, but we will continue to monitor the situation as events unfold. However, at MD we specifically design portfolios around clients’ time horizons and purpose. Accordingly, while the situation in Greece presents the risk of market volatility in the short term, this is unlikely to show much impact on short-term horizon portfolios, which have less equity exposure. Longer-term portfolios may be more at risk of short-term volatility, but we don’t expect the events in Greece to have a lasting impact on clients’ long-term investment goals.

The world has experienced much bigger crises and come out stronger, and we don’t expect that this situation will prove to be any different. Greece remains a small part of the global economy, and there are far more important factors that will drive total return over the following decade. We encourage you to continue to maintain a diversified portfolio, work closely with your MD Advisor to monitor your long-term financial plan, and ensure that your strategic asset allocation continues to be appropriate for your financial goals.