Saturday, July 12, 2014

I am buying Greek Banks

Greece was the epicenter of the 2008 meltdown in Europe. The country suffered massively as its economy unwound from the bubble created by its entry into the Eurozone. Greece should never have been admitted to the EU as its economy is uncompetitive with the countries in northern Europe. Once it got in Greece began using the Euro and got the benefit of the low interest rates that being in the Euro provided. This created a huge real estate, public sector, and government debt bubble. Once the crisis came all the malinvestment and bad investments became apparent and the economy collapsed. There has been quite a bit of economic, political, and social upheaval over the last six years. You may remember the riots a couple of years ago and they continue sporadically today. Basically the Greek economy has been in a massive depression for the last six years with unemployment currently around 27% of the labor force. With this poor economic backdrop  it would appear that suggesting one buy Greek banks is insane. However as I am a contrarian I always look for the changes at the margin. The Greek economy will not contract indefinitely and the Greek government will eventually have to take steps to improve the climate for business. Greece has been there for two thousand years and is not going to disappear.

Lets focus on the evidence for a marginal change in the economy and government policy. The economy is actually fore casted to return to marginal growth in 2014.

At the same time, the macroeconomic environment is improving: GDP in 2013 fell by 3.9%, which was the result of a continuous deceleration in the rate of decline of GDP throughout the year, while the initial projection for GDP growth for 2013 was -4.2%. According to the latest estimates, in 2014 Greece will return to positive rates of growth after six years of deep recession. In the years to follow Greece is expected to experience robust growth rates that will gradually rise.

Confidence is being restored. The economic sentiment indicator has reached the highest level in the last five years. The spread of the Greek 10-year government bond compared with the German bund has fallen below 550 basis points, whereas at the peak of the crisis it surpassed 3,000 basis points. In January, the purchasing managers' index (PMI) exceeded the threshold of 50, indicating expansion for the first time since August 2009. Two of Greece's four systemic banks have just raised almost €3bn of fresh capital.

The gradual recovery of economic activity is further captured by several short-term indicators including retail sales and industrial production. On the external side, exports of goods and services in 2013 grew by 1.8%. Net tourist receipts rose by 18.1%, while international tourist arrivals exceeded the target of 17 million that was set for 2013.

 Another problem the Greek economy had was too much government ownership of industry and government influence in the economy. This is both inefficient and unproductive. As a condition of the various bailouts the country has received it has been privatizing various industries such as the postal service, the electric utilities, and the national lottery in a bid to reduce its crushing debt. The country is not out of the woods yet and I do not expect Greece to become a beacon of capitalist innovation. However for my thesis to work out it only needs to shift at the margin so that investor perceptions change enough for a revaluation of these banks.

Now lets shift to my thesis on why the Greek banks look like a decent speculation at this time. As in most western countries the big banks are hooked in politically and have the support of government. Most governments go out of their way to keep their banking system from collapsing. The same is true in Greece as the banks have received massive support. In addition the number of big banks in Greece has shrunk from ten to only four. These four banks control around 90% of the market currently. These banks are still plagued with non performing loans and have been shrinking their asset bases while becoming recapitalized. This also has led to the banks actually becoming stronger and in a good position to meet the Basel 3 Tier 1 ratios. My thesis for speculating in Greek banks is as follows.

  • Greek banks non performing loans begin to recover and reserves set aside to account for NPL's are released book value goes up
  • Greek banks will soon begin to move on foreclosures, something they have not been able to do due to the crisis book value goes up
  • With economy improving, loan origination should improve along with projected increase in mortgage origination's
  • Greek banks also have huge deferred tax allowances. If and when these are reversed the bank' s book value should go up
As book value goes up the banks value in the stock market should adjust upward. What could go wrong? The reforms in Greece could reverse or stall. The economy could perform worse than I expect. The political situation could deteriorate and scuttle all the plans. However these are remote in my view and if they were going to happen it would have happened in the last six years. The big money is made by stepping up and buying at a point of maximum pessimism by the public and when most have given up on an asset, company, or country. However this has to be in the context of some change at the margin that will act as a catalyst to a change in perception of the asset. Things are definitely improving in Greece and this should continue. I am not the only one who thinks so as various hedge funds are moving in also. I am looking at this being a three to five year speculation and I have bought an equal amount of each bank and created my own mini Greek Bank ETF. The banks I am buying are the following:

National Bank of Greece (NBG)
Piraeus Bank (BPIRY)
Alpha Bank (ALBKY)
Eurobank (EGFEY)

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