Greece, Risks and the Project of Hercules

02/17/2020 5:00 am EST

Focus: GLOBAL

Benj Gallander

President, Contra the Heard

Greece had one of the best-performing stock markets in 2019. The nation's OECD's Business Confidence and Consumer Confidence Indices suggests business and consumer are optimistic, notes Benj Gallander, editor of Contra the Heard.

Capital controls — a la 2015 — were lifted last September, which increases investment freedom. The International Monetary Fund projects growth above 2% and inflation at less than 1%.

As one would expect, MSCI Greece ETF Global X (GREK) also did well, up 46.8% in 2019. In particular, the fund's banking component effectively doubled. That said, risks remain, and this is one of our more contrary plays.

Greece owes 9.4 billion Euros to the IMF, ranking only behind Argentina and Ukraine. Governments have slashed spending, but at the cost of services and capital investment. Pension, tax, and bankruptcy reforms have occurred, but more are needed. Tax evasion is something of a national sport.

But the elephant in the room — or, should we say, the minotaur in the Acropolis — is non-performing loans (NPL). As Warren Buffett has opined, "It's only when the tide goes out that you discover who has been swimming naked." Turns out almost everyone in Greece was hitting the nude beaches.

NPLs represent about 44% of all loans outstanding. By contracst, at the peak of the financial crisis, America's non-performing loans were roughly 7.5%.

The government has unleashed Project of Hercules, which will try to reduce the 75 billion Euros in NPLs by about 30 billion Euros through government guarantees and special-purpose entities to isolate risky debt. Among other things, mortgages will be refinances so that homeowners can stay in their homes.

Bad loans are of particular relevance to GREK investors because financials represent one-third of the ETF. Alpha Bank alone stands at 11% of total holdings, and its NPLs are some 600 million Euro — almost six times net income.

If enough of these loans should have to be written off, the bank would implode. Fortunately, year-to-date EPS double last year's tally and the credit agencies have been raising Alpha's rating.

Despite all the risks, GREK appears cheap. As a result, it holds significant upside if economic progress continues. Given its modest weight in our portfolio, it appears to be a worthy speculation, and it's nice to see it going in the right direction for a change.

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