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Brian Tora: Cyprus’s fate could have far reaching consequences

The terms of the bailout proposed for Cyprus would set an unwelcome precedent

Brian Tora MM blog side

I have only visited Cyprus once. Interestingly, it was to speak at a conference for financial advisers working offshore. It seemed a pleasant enough place, but then I had no time to explore and spent most of the brief visit within the confines of the hotel within which the conference was staged.

All this took place a quarter of a century ago when markets were still reeling from the after effects of the crash that had taken place in October 1987. My task then was to try to put into context the events of the previous year and to provide encouragement to those who were talking directly to investors unsettled by falling share values

I fear the job would be even more difficult today.

After a good run that had taken our own FTSE 100 Index above 6500 and the American market into new high ground, shares had already run into a little profit taking at the end of the week before the Cyprus story broke.

Copy deadlines being what they are, the situation may well have moved on by the time you read this, but such is the importance of what we learned over that weekend some eleven days ago that it is worth revisiting.

That Cyprus is in the mess it is should hardly come as a surprise. The banks there are heavily focussed on Greece for historic reasons, so with the mother country in a muddle, some form of bail-out must have been inevitable.

It is the terms, though, that have so unsettled markets, accelerating the selling pressure and putting markets into reverse. The overall result may have been less severe than in the aftermath of the Lehman Brothers collapse, but the circumstances demand close watching.

It is easy to understand the attractions of a one-off raid on bank deposit accounts. It would be quick and relatively simple to implement and would provide a significant proportion of the funds needed to keep Cyprus from going bankrupt. The Cypriot economy is, after all, very small and arguably would do little damage to the rest of the single currency zone if it failed. But there remains the risk of contagion, so Europe’s leaders clearly do not wish to take the chance.

However, Germany evidently is losing the appetite for funding over-extended nations within the Eurozone, hence the proposal to find some of the cash from depositors in a series of banks that are themselves probably bust.

This goes against all the laws of property rights, as the Russian government has strongly pointed out. Around 40 per cent, or about €30bn, of deposits held in Cyprus are on behalf of foreigners, the greater percentage of which are Russian.

While you might argue that some of this cash might have dubious origins and Cyprus needs the money anyway, I can think of no better way to start a bank run than to threaten to confiscate part of the cash held there. No wonder the Euro has faded, following a strong period that has seen the pound weaken from €1.27 to €1.14. Being outside the single currency zone suddenly feels much more comfortable.

Perhaps by now some form of accommodation has been reached and the situation has calmed down, but I, for one, was amazed that such an approach to refinance a country could be even contemplated.

This could turn out to be a pivotal moment for Europe. If pursued, it could lead to a break-up of the single currency zone or a deepening recession – perhaps both. For the time being, sitting on your hands seems to be the best advice for investors.

Brian Tora is an associate with investment managers JM Finn & Co

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