This morning's hot topic was a Financial Times article: Radical rescue proposed for Cyprus which indicates that depositors as well as investors in the country's sovereign bonds could stand to lose up to two-thirds of their investments. Cyprus needs approximately EUR 17 billion in order to reduce the overall burden which would reach 140 percent of economic output by 2015 in the absence of a haircut. Eurozone
Finance minister meet tonight and need to secure deal before 1 March 2013.

These are the three leaked options on the table:

1. Bail-in (the radical version) - Reducing outstanding debt to 75-ish percent via haircut which would hit foreign depositors and bond holders. This would be hard on the big investor - Russia.

2. Bail-in (light version) - Only junior debt holders would be hurt, not bank depositors. However, this would prolong the reduction of the banking sector by ten years. This plan also includes increasing corporate tax from 10 percent to 12.5 percent and withholding tax on capital income to 28 percent.

3. A classic European Stability Mechanism (ESM) structure - selling the 'nationalised' Cypriotic banks to the ESM and secure funding. Problem being ESM is not yet allowed to fund banks directly.

The political decision is really down to how big a reduction Cyprus needs. Some people argue for 100 percent by the end of 2015, others say it should be by 2020.

The deep irony is of course that when we had the haircut on Greece, we were told Greece was a one off and it would never be repeated. Well, Dr Watson, it's elementary: Other people's money is always easy to spend.

Making things complicated are two issues:

Cyprus goes to the polls on 17 February and again on 24 February. As we have seen across Europe it looks like a changing of the guard: Cyprus opposition extends lead week before vote

Cyprus is seen by many countries as a tax haven for Russian money, so bailing out Cyprus equates to "helping Russian investors". We have no view on this issue but note how Jorg Asmussen, a European Central Bank board member, is taking the high road in the German press: ECB's Asmussen sees Cyprus bailout by end-March.

The Guardian runs an excellent update website called: Eurozone Crisis Live

Source: Bloomberg LLP. Cypriot government bonds seem unaware of any potential haircut.

Conclusion

It's clearly a concern for the market that Greece was not, after all, a one-off. The radical version could reignite fundamentals issue in Europe and as we have written in our Stress Indicators recently: Risk off looks more and more likely.

We suggest securing profit and reducing overall risk - mainly in EUR, JPY and major European indices. The deal will probably only be done at the last minute, but it leaves us "hanging" for another two-three weeks, and one thing the market does not like is increased political tail-risk.