LONDON, March 22 (IFR) - Just two months away from the eurozone's first potential sovereign default, and the credit market is, well, amazingly calm.
A EUR1.4bn sovereign bond that Cyprus is due to repay on June 3 is bid at a cash price of 82, hardly distressed levels in the context of the Greek restructuring. And even Cyprus' longer dated issues are no less than 60% of face value.
That suggests there's a fairly good chance that sovereign bond holders will be paid back - potentially in full. So what's there to be worried about?
Not a lot, if you ask bankers, and the broad-based market stability seems to reflect that.
Peripheral sovereign yields have all been relatively steady, as has the second most vulnerable sector - banking.
While the iTraxx Senior and Subordinated indices have borne the brunt of the sell-off in the wake of the announcement of the unprecedented tax on Cypriot bank deposits, the moves in cash have been tame.
That is remarkable if you consider the potential threat to senior bondholders given depositors' treatment.
ITALY'S THE WORRY
So, has the world gone mad? On the face of it, no. Not only is Cyprus not systemically important, but it suffers from the widespread perception that its banks' business model is based on the country being a tax haven propped up by Russian money.
There is no way Germany, Finland and The Netherlands would support shouldering the entire cost of the bailout for such a small, dare we say it, insignificant European country when there is a perfect pool of international investors ready for the taking: rich Russians.
This same trio has also been very vocal that senior bondholders should be bailed-in.
Although Cyprus' bailout has been badly managed, financial market professionals all agree, more or less, that whatever happens to Cyprus, the bubble of the seven-month rally will not burst.
"The market will just work through this," said one senior banker.
"Cyprus? It counts for such a small percentage of eurozone GDP, that it's almost insignificant," said another.
Cyprus accounted for just 0.1% of eurozone output in 2012, according to European Commission data.
"What's more worrying is that the market isn't more nervous about the situation in Italy. It's the third biggest country in the eurozone, and it doesn't have a government," said the second banker.
Precisely. This is where the world does appear mad.
Prolonged political uncertainty would leave Italy, which has around EUR2trn of public debt, exposed to rising bond yields.
A disorderly default for Cyprus is clearly not ideal, but it would not spell disaster. If things get messy in Italy, on the other hand, we're quickly in uncharted territory.
The outlook for the country's banks is particularly dire. If Cyprus can take it upon itself to ignore an EU-wide insurance for depositors under EUR100k, what's to stop others doing something similar? And how can Italian second and third tier banks reassure depositors, and bondholders, that they're not at risk?
If Cyprus has taught us one thing, it's that sovereigns will do whatever they have to in order to keep their heads above water.
The market - given its stability - may well be ignoring that, simply because the billions of cash sloshing around the market is distorting investment decisions and risk judgment.
As one banker warned: "There's so much cash, it's papering over the cracks." (Reporting by Natalie Harrison, IFR Markets; editing by Alex Chambers and Julian Baker)