Bank Credit Risk Drops in Europe as Cyprus Deal Averts Euro Exit

The cost of insuring against losses on European bank debt dropped from the highest in four months as a bailout agreement for Cyprus averted default and exit from the euro system.

The Markit iTraxx Financial Index of credit-default swaps insuring the senior debt of 25 banks and insurers fell seven basis points to 170 at 10:10 a.m. in London, according to data compiled by Bloomberg. A gauge of subordinated debt dropped 11 basis points to 288.5.

Cypriot President Nicos Anastasiades agreed to shut the country’s second-largest bank in exchange for a 10 billion-euro ($13 billion) bailout. Senior and subordinated bondholders in the nation’s banks will contribute to the bailout, as well as shareholders and depositors with more than 100,000 euros in their accounts.

“This deal has come as a sigh of relief and the market is risk on,” said Juan Esteban Valencia, a strategist at Societe Generale SA in Paris. “The fact that insured deposits are not going to be bailed in is perhaps among the best outcomes we could have hoped for.”

Collapse Averted

Under the revised accord, Cyprus Popular Bank, 84 percent owned by the government, will be wound down. Those who will be largely wiped out include uninsured depositors and bondholders, including senior creditors. Senior bondholders will also contribute to the recapitalization of Bank of Cyprus.

“The risk of a disorderly collapse has been taken off the table,” credit analysts led by Michael Ridley at Mizuho International Plc in London wrote in a client note.

The Markit iTraxx Europe index of 125 companies with investment-grade ratings fell five to 114.5 basis points. Contracts on the Markit iTraxx Crossover Index linked to 50 companies with mostly high-yield credit ratings dropped 16 basis points to 460.

A basis point on a credit-default swap protecting 10 million euros of debt from default for five years is equivalent to 1,000 euros a year. Swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent should a borrower fail to adhere to its debt agreements.

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