Over the weekend the Greek people have voted with a resounding ‘No’, to reject the latest bailout conditions imposed by European negotiators.  Prime Minister Alexis Tsipras had claimed it would strengthen the ability of Greece to secure better terms in negotiations; others fear it may signal the exit of Greece from the euro.

The initial response to the news has been a classic flight to safety in markets.  However, the reaction has been relatively modest, for a couple of reasons.

First, opinion polls had started to move towards a ‘No’ vote by the end of last week, so that some of this news had already been priced into markets, particularly through weakness in equity markets and strength in core government bond markets.

Second, markets need to wait for the response of European officials, which (as always) is critical for determining Greece’s chance of a new bailout package and a future within the euro.  Responses from European ministers and officials are already trickling out on the newswires.  Importantly, Angela Merkel and Francois Hollande are due to meet on Monday night (our time), and an EU summit has been hurriedly scheduled for Tuesday.

While the probability of a Greece exit from the euro has increased (to, say 30-40%), we expect the initial response from European leaders to still be one that aims to keep Greece within the European project. 

That said, the Europeans are likely to keep the pressure on Greece by playing a slow game: continuing to follow the regular process for support requests; throwing the ball back into Greece’s court to make a new proposal; and in the meantime not extending further liquidity support to the Greek financial system.  With people still lining the streets to withdraw limited cash from Greek banks, the Greek government will continue to feel the pressure. (The ‘No’ vote may not feel like a victory for long.)

From here, the key date for markets is 20 July when Greece is due to repay a $3.5 billion euro loan from its existing rescue package.  Missing that payment would trigger default, and importantly force the ECB and others to call back loans that use Greek government bonds as collateral. 

The punchline for markets is to expect continued Greek dramas and last minute negotiations down to the wire on 20 July.   

We will continue to monitor the situation closely and follow our regular investment processes for our funds. Volatility can create both risks and opportunities. In our opinion, there is no need to panic.  Developments in Europe would have to deteriorate significantly before they had material implication for upcoming policy decisions from the RBNZ, RBA or US Federal Reserve.  The slowing NZ economy is enough in itself to keep the RBNZ on an easing cycle.  In parallel, we are continuing to watch developments in the Chinese financial system and macroeconomic outlook.

Harbour’s research is available on their website, see: www.harbourasset.co.nz

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