eee ar eee JPMorgan [email protected] 28 March 2013 senior bank bond holders will lose money and this risk is, in our mind, not yet in the price (Rethinking the capital structure, R. Henriques et al., Mar 27). FX weekly change in USD Foreign Exchange 0.8% e Today’s research note, Sacrificing Cyprus, examines several presumptions 0.6% which have arisen over the past two weeks due to the Cyprus crisis, and scores °4% them on a scale of truths, half-truths and falsehoods. There are indeed some 0.2% right conclusions to draw from this experience, but also some wrong ones. As 0.0% examples, it is true that capital controls have created a two-tier euro, but very 0.2% unlikely that Cyprus is exiting EMU. And while it is true that markets deserve ; arisk premium for policy uncertainty, the size of the premium should be much a lower than in previous crises due to backstops like the OMT. 0.6% 9, e For example, during the first Greek crisis in May 2010 EUR undershot by on 10% relative to cyclical conditions at that time, and during Greek elections in ue May 2012 the currency undershot by 5%. The combination of Italian and Teh JPY EUR GBP CHF CAD AUD Cypriot events have eliminated the euro’s overvaluation from early 2013, Source: JP. Morgan when the currency spiked to the high $1.30s on a presumption that LTRO funds would be repaid rapidly, driving European rates higher. The currency is now close to fair value, so carries no risk premium for contagion. The message is similar in vol markets: the 1% premium for 3-mo implied versus realized vol is far less than the 5% premium witnessed during previous crises. e While there is no evidence that the EUR/USD cash or options market carries a risk premium, it is also true that the required premium should probably be far less than in previous crises given that a sovereign funding backstop like the OMT is in place. We are thus reluctant to extrapolate this mini-crisis into a systemic event which triggers broad deleveraging, or to for