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Political Update

The Cyprus issue and the current round of negotiations

Cyprus January 25, 2017

Cyprus has been divided since the summer of 1974, following the Turkish invasion

which resulted in the illegal occupation of the northern third of the island. The Republic of Cyprus (Greek Cypriot side) is recognized by the international community as the sole legitimate State of the whole island, whereas the self-proclaimed “Turkish Republic of Northern Cyprus” (Turkish Cypriot side) is recognized only by Turkey

There were talks in the past, since 1977. The current round started in May 2015 triggered by the election of a Turkish Cypriot leader that shared the same ambition for reunification as the current President of the Republic of Cyprus. Negotiations picked up speed in 2016 which resulted in the five-day meeting in Mont Pelerin, Switzerland on November 7, with the scope of reunifying the island. The feeling on both sides is that a solution could be within range, sparking political and other interventions by all involved

The talks are primarily driven by political and economic logic but talks are difficult, given the longevity of the problem, the nationalistic perceptions on both sides and the fact that five parties are involved, whose agendas are not necessarily aligned (i.e. the Greek Cypriot and the Turkish Cypriot sides and the three guarantor powers – Greece, Turkey and the UK), while regional and geopolitical interests of other nations also come into play

While publicly not admitted, the current talks are affected by the lessons of previous efforts, primarily by the 2004 Annan plan, and discussion seems to be evolving around the former plan’s provisions. Note that Cyprus became a full member of the EU in 2004 and a member of Eurozone in 2008. The Annan plan was put into two separate referenda and was rejected by the Greek Cypriot side by 76%, while the Turkish Cypriot side accepted the plan with a majority of 65%

This time the approach is different. The process is much more Cyprus-driven and owned, as the two sides are actively engaged in the negotiation process. While significant convergences have been achieved, the primary sticky issues are: (i) property; (ii) territorial adjustments; and (iii) security and guarantees. The aim of the two sides is that any agreement reached should be accepted through referenda on both sides and that a solution should be sustainable for the long run

These are “open ended” talks so the timing of the negotiations remains unclear but political logic suggests that there is a relatively short window given potential negotiations fatigue at both local and international level (EU/UN), the February 2018 presidential elections in the Republic of Cyprus, and the developments in the three guarantor powers (i.e. Greece and the economic developments in the country, Turkey and the focus on the political developments amidst an apparent economic downturn and UK’s focus on Brexit and the issue of its two sovereign bases in Cyprus)

Please see important disclosures at the end of this report

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What is the Cyprus dispute, what are the negotiations about and who are the main players involved? The division of the island in 1974 and key developments since Cyprus, a country populated by Greeks (majority) and Turks has been divided for forty-two years since a military action in 1974, which resulted in the Turkish occupation of the northern third of the island. The Greek and Turkish communities have since been separated by a buffer zone (known as the Green Line) and c.150k Greek Cypriots from the island’s north (controlled by the Turkish Cypriot community) and c.45k Turkish Cypriots from the south were displaced. Currently the total population of the island is around 1.1mn with c.750k leaving on the Greek Cypriot side, and c.300k on the Turkish Cypriot side. Following the military event, the Republic of Cyprus (RoC – consisting of the Greek Cypriot side) was recognized by the international community as the sole legitimate State over the island, while the north-side came under the de facto administration of the self-declared “Turkish Republic of the Northern Cyprus” (“TRNC”) which is guarded by Turkish Armed Forces. The RoC was able to reconstruct its economy and to grow fast especially in the 90’s and 00’s. Even after the economic crisis in 2013 that led the country under a Troika (European Commission-ECB-IMF) economic adjustment program, the GDP per capita of the Greek Cypriot side stands at EUR 20,800 (2015), while the Turkish Cypriot side’s stands at EUR 12,390 (2015). In 2004 the RoC became a member of the European Union (EU) and a member of the Eurozone in 2008. In late 2011, significant natural resources were announced in the waters of RoC, which are expected to contain 4.5 trillion cubic feet of natural gas while exploitation is anticipated to commence in 2020. Figure 1: Cyprus divided

Reunification talks started almost 40 years ago but progress was slow The negotiations conducted for almost forty years now, aim at reunifying the island under a federal roof with two constituent states. Unlike most conflict zones, Cyprus has enjoyed peace since the 1974 events. Therefore, the efforts made for the unification of the island are driven by domestic and international politics and also encompass the economic benefits of such a development. Reaching a solution to the Cyprus problem is not only a matter of an agreement between the two sides (i.e. the Greek Cypriots and the Turkish Cypriots) on the domestic aspects of the solution but a compromise on which the three guarantor powers will also agree, at least on the international aspect (i.e. the security and guarantees issue but also on recognition) of the resulting state. Note that upon the establishment of RoC in 1960, a Treaty of Guarantee was signed providing that Greece, Turkey and the United Kingdom (UK) would be the guarantor powers of the Republic of Cyprus.

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The Treaty of Guarantee envisaged five articles with Article II providing that the three guarantor powers would recognize and guarantee the independence, territorial integrity and security of the RoC. The parties also agreed that the integrity of the areas of the island under UK sovereignty shall also be respected. Article IV reserves the right of each guaranteeing power to take action with the sole aim of re-establishing the state of affairs created by the Treaty of Guarantees; a provision which was used in 1974 and enabled Turkey to invade the island. The “Annan plan” The current talks may prove nothing new as hopes have been dashed many times before. Since 1977 the leaders of both communities have agreed in principle that the island should be reunited under a federal system. However, negotiations aiming at achieving the reunification have so far been unsuccessful with the last solid attempt materializing back in 2004, with a UN-backed reunification plan, that became known as the “Annan plan”, after the then UN Secretary General, Kofi Atta Annan. The Annan plan was driven by the desire of both RoC and Turkey to join the EU that was especially portrayed by the Turkish Cypriots efforts who demanded the reunification of the island, which would give them EU citizenship as a result of Cyprus joining the EU in 2004. The plan was put into two separate referenda in the two communities on April 24, 2014, but was rejected by 76% of the Greek Cypriot voters. Turkish Cypriot voters supported the plan by 65%. One of the primary reasons for the strong Greek-Cypriots “no” vote was the widespread belief that the EU membership would enable the Greek Cypriot side to eventually negotiate a better plan. A plan that would have addressed the Greek Cypriot side’s legitimate concerns, particularly as regards the presence of foreign troops on the island and the intervention by the guarantor powers. In the years that followed the efforts to restart talks did not reach a critical point, in spite of the efforts and apparent chemistry between the then President of RoC, Demetris Christofias and the Turkish-Cypriot leader, Mehmet Ali Talat, while the downturn of the economy (RoC) that started in 2011 led to further delays. On February 11, 2014, a Joint Declaration between the current president of RoC, Nicos Anastasiades, and the former Turkish-Cypriot leader, Derviş Eroglu, was signed, underlining that any agreed settlement should respect the democratic principles, human rights and fundamental freedoms of the Greek Cypriots and the Turkish Cypriots alike and ensure their common future in a united Cyprus within the EU. However, negotiations aiming at the reunification of the island proceeded erratically with neither side appearing fully committed until the “TRNC’s” surprise election of Mustafa Akinci as Eroğlu’s (considered as a more “hard-liner” politician regarding the Cyprus issue) replacement in April 2015.

What is the main focus of the negotiations? The fundamental chapters discussed on the negotiating table comprise the following: (i) governance and power-sharing; (ii) the economy; (iii) the role of the EU in a post-solution Cyprus; (iv) the property; (v) the territorial adjustments; and (vi) the security and guarantees issue. However, the focus of the negotiations has been concentrated on the last three key chapters under discussion (i.e. the property, the territorial adjustments and the security and guarantees issues). To a lesser extent, the issue of a rotating presidency, falling under the chapter of governance is another grey area for both sides. 1. The term property issue refers to the future status of the Greek Cypriot and Turkish Cypriot properties, held

prior to the Turkish invasion in 1974, in the prospective Turkish Cypriot and Greek Cypriot constituent state. Restitution, exchange or monetary compensation are already agreed (under the Annan plan) to be the three remedies for a settlement to the property issue and they set the framework of the current negotiations.

2. The territorial adjustments issue involves three elements: (i) the extent of the territory of the Turkish Cypriot

constituent state post the solution; (ii) the number of refugees that would return under Greek Cypriot/Turkish Cypriot administration; and (iii) the extent of the coastline, which would surround the area of each state.

3. The security and guarantees issue will have to address the two parameters that could destabilize any conflict

resolution and peace building process on the island: (i) the Greek Cypriots’ security vis-à-vis Turkey and the threat of its current military force on the island (c40k Turkish troops on the Turkish Cypriot side); and (ii) the Turkish Cypriots’ security concerns regarding the Greek Cypriot side (Greek Cypriot army is comprised of approximately 13k active personnel and c.70k reserve personnel, whereas there is an additional amount of c.1k Greek troops in RoC).

In relation to the security and guarantees issue we note that the involvement of the European Union, the United Nations, as well as Russia’s and US’ political stance in a new security arrangement is essential not only for reaching a settlement, but also for making it viable and workable.

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Retaining the current system of security and guarantees may result to the emergence of military crises as history has proven before in 1997 with the Cyprus Missile Crisis; in 1997, Cyprus planned the integration of its air-defence system through the installation of two Russian-made S-300 missiles on its territory, which resulted in Turkey’s threats of attacking or even starting an all-out war if the missiles were not returned to Russia. The crisis effectively ended in 1998 with the decision of the RoC to transfer the S-300s to Greece's Hellenic Air Force in exchange for alternative weapons from Greece.

Table 1: The foundation of the talks: the 2004 Annan Plan

Note that if there is a final plan the two communities will have to put it to a vote in separate referenda. Thus, we consider that both sides’ leaders are doing their utmost to reach a final agreement which would address both sides’ citizens’ legitimate concerns, hence allowing the approval of the plan by both communities and avoiding a rejection.

What is the position/aim of each participant involved in the negotiation procedure? Each participant’s aims in the ongoing negotiations are outlined below: RoC (Greek Cypriot side):

Seeks the reunification of the island and the comprehensive solution with respect to the property rights, territorial adjustments and security;

Territory issue: (i) minimum land to remain under Turkish Cypriot administration is 28.2%, but key areas such as the wider area of Morphou and the closed city of Famagusta are expected to return under Greek Cypriot administration. The return of Morphou is considered as a vote of confidence for the Greek Cypriot voters as a vast number of refugees will return to their properties; (ii) desires the return of c.90k displaced Greek Cypriots; (iii) extent of coastline to be divided in half (press reports note that the Greek Cypriot side proposed a 50.4% of the coastline to remain under Greek Cypriot administration);

The Greek Cypriot side demands the end of the 1960 guarantee system and the removal of the Turkish troops;

Against the notion of a rotating presidency with the Turkish Cypriot side; and

Expects a positive and large impact on the economy following the reunification

Red lines: (i) return of the wider area of Morphou; (ii) a post-solution Cyprus could not provide for a rotating presidency; and (iii) removal of the Turkish troops and end of the 1960 guarantee system

“TRNC” (Turkish Cypriot side):

Seeks the reunification and the comprehensive solution with respect to the property rights, territorial adjustments and security;

Territory issue: (i) maximum land to remain under Turkish Cypriot administration is 29.2%; (ii) desires the return of c.60k displaced Greek Cypriots; (iii) extent of coastline to be divided in half;

Turkish Cypriot side wants Turkey to retain its role as a guarantor power;

Seeks a rotating presidency with the Greek Cypriot side as a prerequisite of political equality; and

Benefit from the economic strength of RoC and the fact that it is member of the EU and the Eurozone

Red lines: (i) rotating presidency is a prerequisite for a solution agreement; (ii) Turkish troops to remain on the island; and (iii) the wider area of Morphou to remain under Turkish Cypriot administration

The main disagreements arising from the Annan plan focused on the same chapters on which divergences still exist between the two leaders at the time.

In particular, the Annan plan envisaged that 28.5% of the land will remain under the Turkish Cypriot administration, with the wider areas of Famagusta and Morphou returning back under Greek Cypriot administration.

On the issue of property, the Annan plan provided that the number of Greek Cypriots/Turkish Cypriots to return to their homes in the constituent state could not exceed 18% of the population in each constituent state for a transitional period of 19 years or until Turkey joins the EU, which was not considered as fair by the majority of the Greek Cypriots. Note that the aforementioned provision would apply in case where Greek Cypriots/Turkish Cypriots wished to acquire property on the other constituent state.

As regards the security and guarantees issue, the Annan plan provided that for a transitional period of seven years, Greek and Turkish soldiers would remain on the island. In addition, the army of both countries should not exceed the number of 6k soldiers, while by the end of 2018, or until Turkey joins the EU, soldiers should be reduced to 3k. Note that the Annan Plan did not incorporate any provision for the removal of the two British bases on the island.

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1.3% 0.3%

-3.2%

-6.0%

-1.5%

1.7%

3.7% 3.9%

0.5% 1.3%

4.9% 4.5%

-8.0%

-6.0%

-4.0%

-2.0%

0.0%

2.0%

4.0%

6.0%

201

0

201

1

201

2

201

3

201

4

201

5

RoC "TRNC"

23,300 23,200 22,500 21,000 20,600 20,800

11,055 11,170 11,647 11,505 11,360 12,123

0

5,000

10,000

15,000

20,000

25,000

201

0

201

1

201

2

201

3

201

4

201

5

RoC "TRNC"

6.3% 7.9%

11.9%

15.9% 16.1% 15.0%

11.9%

9.5% 8.7% 8.4% 8.3% 8.2%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

18.0%

201

0

201

1

201

2

201

3

201

4

201

5

RoC "TRNC"

2.2 2.4 2.5 2.4 2.4

2.7

3.2

0.9 1.0 1.2 1.2

1.4 1.5

n/a 0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

2010 2011 2012 2013 2014 2015 2016

RoC "TRNC"

Turkey:

Protect/push the Turkish Cypriot side demands;

Address internal Turkish issues (i.e. amendment of the constitution through securing votes of other, including nationalistic, parties);

Wants to remain a guarantor power in a post-solution Cyprus under any agreement achieved. Turkey might put pressure on the UK through the argument that the 1960 Treat of Guarantee could be amended on the basis of the current British bases’ regime. Note that the latter will effectively mean the establishment of Turkish bases with the same characteristics as the British bases (i.e. bases will be considered as Turkey’s territory with their own airspace and territorial waters);

Seek benefits from an agreement as it would help Turkish strategy to become a key energy hub in the region; and

Regarding timing it could be looking forward to the improvement of its relationship with the US, following the change in the US administration, therefore more time could be welcomed

Red lines: (i) Turkish troops to remain on the island; and (ii) return of Morphou is not negotiable

Greece:

Protect/Push the Greek-Cypriot side demands;

Greek-Turkish relations are tested on a number of issues, therefore Greece is strongly opposed to Turkey’s view and any compromise is difficult to be achieved; and

Removal of the current system of security and guarantees and Turkish/Greek troops; however a short window allowing for the remaining of Turkish/Greek troops on the island for a transitional period before fully removed, is possible

Red lines: end of the 1960 guarantee system and removal of Greece/Turkey troops from the island UK:

UK has held the position that it would wait and follow the lines decided by the two leaders, however the full removal of British bases from the island is highly unlikely

How will the two sides and the international community benefit from a solution? The economy of the RoC is largely based on tourism and the services and banking sectors, while the economy on the north heavily relies on universities with Turkish and other foreign students, casinos and tourism and agriculture.

Figure 2: GDP growth rate (RoC versus “TRNC”) Figure 3: GDP per capita (RoC versus “TRNC”) (EUR)

Source: Eurostat, Turkish Embassy Annual Report, AXIA Research

nono

Note

Figure 2: Unemployment rate (RoC versus “TRNC”) Figure 3: Tourist arrivals (RoC versus “TRNC”) (mn)

Source: Eurostat, Turkish Embassy Annual Report, AXIA Research

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Cooperation between the two communities is expected to have significant positive economic impact on the island in the long-term versus a non-solution situation. Indicatively, these would include:

(i) normalization of Greek Cypriot side’s relations with Turkey; (ii) regional collaboration and prosperity which can also invigorate EU-Turkey relations; (iii) removing internal physical barriers to trade (i.e. the UN buffer zone); (iv) harmonizing the Turkish Cypriot economy to EU norms, supervisory practices and other

regulations; (v) improving key infrastructure and investment (i.e. revitalize the wider Famagusta area which

remained undeveloped since 1974); (vi) development of the reunified island may accelerate investors’ interest (through internal

investments but mainly FDI), letting the economy of the island grow at faster rates (vii) cooperation in the fields of economy, trade, education and energy; (viii) allowing the tourism product to reach its full potential; (ix) Greek Cypriot side could get access to the Turkish market and vice versa (i.e. the Turkish Cypriot

side and Turkey could get access to the EU through a country that speaks its language); and (x) enhancement of cooperation in the field of oil and gas by crossing out the barriers imposed by

Turkey and the Turkish Cypriot side with regards to how the Cypriot Exclusive Economic Zone (EEZ) should be divided

The unification of the island is not only an objective of the two communities and the other countries involved but an ambition for several players in the international community, including the EU and the US, for a number of reasons including security and energy.

On the security issue, a reunified Cyprus would comprise a victory for the EU and its role as a peacemaker, supporting its efforts with the refugee issue and terrorism.

Cyprus as a regional energy hub A reunified Cyprus may also play the role of a regional energy hub for the EU, which would facilitate the inflow of natural gas from the wider region through a pipeline connecting Israel, Egypt and Cyprus to Turkey and then to the rest of the EU (considered as the most economic viable solution versus the announced East Med underwater gas pipeline – connecting Israel to Cyprus and then to Europe through Greece). The latter is effectively translated in the mitigation of EU’s reliance on Russia when it comes to energy matters.

The importance of Cyprus and its role in a regional cooperation in the field of natural resources was depicted through the entry of major energy players that entered the game, such us the US giant ExxonMobil, during the third licensing round for offshore hydrocarbon exploration in Cyprus’ EEZ.

For the US, finding a solution to the Cyprus issue could close an instability pocket in the Eastern Mediterranean that could leave out of the game other countries, such as Russia, that could otherwise, for instance, use energy as an opportunity for an enhanced military presence in the area. However, things may change in the political chessboard (i.e. US-Russia relations) of the region following the change in the US administration and the election of Donald Trump as the new president of the US.

Recall that in December 2016 the Cypriot authorities announced the winning consortia in the context of the third licensing round for offshore hydrocarbon exploration in Cyprus’ EEZ, comprising of: (i) Block 6: Eni Cyprus/Total E&P Cyprus; (ii) Block 8: Eni Cyprus; and (iii) Block 10: ExxonMobil Exploration and Production Cyprus (Offshore)/Qatar Petroleum.

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Who will be financing the solution? Getting all the parties agreeing on a comprehensive solution that will be accepted by both communities when put into two separate referenda is not the only concern. The financial aspect of the solution and primarily who will stand ready to finance it is another major consideration in the negotiation process. Efforts to measure the economic cost of the solution are for the first time in the negotiating process materialized by a team of specialists of four international and European institutions: (i) IMF; (ii) World Bank; (iii) ECB; and (iv) EC. The results of their analysis were expected to be finalized and published by the end of October 2016, something which did not occur as the four organizations faced difficulties in the collection and evaluation of the data provided by the “TRNC”. However, several press reports have indicated that the cost of the solution is estimated at c.EUR 30bn, with c.EUR 20bn concerning the property issue and c.EUR 10bn relating to the territorial adjustments issue. During the Geneva talks, the Cyprus News Agency reported that the European Commission could allocate EUR 3.1bn to Cyprus in case of a solution through the Multiannual Financial Framework. Although the numbers were not confirmed by EU officials, funds will either have to come from existing programmes or from a special package that will need the consent of the 28 member states. We know that for the period 2014-2020, the EU budget for Cyprus is EUR c.1.3bn (with EUR c.0.2bn being co-financed by the RoC) with only EUR c.60mn being funneled to the economy. Hence approximately EUR 1.0bn of funds may come from the aforementioned existing funds that have not been allocated yet, while the remaining may come from a special “peace package”, such as the Ireland Peace Package. How the remaining amount will be financed is still unknown but the involvement of third countries (i.e. Russia and the US) as well as of the private sector is likely to be essential.

What is the actual progress achieved in the talks? The UN-led negotiations resumed in May 2015, following the election of Mustafa Akinci in April 2015, and gained new momentum swiftly thereafter that led to the current peak of the negotiations. Note that the election of Akinci was deemed a positive development by the RoC due to his counter-nationalistic statements and long-standing interest in reunifying the island, as well as his opposition to Turkey’s increasing influence in northern Cyprus. At the same time, the UN have been actively engaged in the process with the newly elected UN Secretary-General, Antonio Guterres, expressing his personal interest, towards finding a solution on the Cyprus problem in his first statements during his presence on the January 12 five party conference in Geneva. Both Cypriot leaders have been engaged in continuous dialogue and depicted political commitment with the scope of reaching a comprehensive settlement under the support of the UN for 20 months now. Given that finding a solution to the Cyprus problem is a personal ambition for Anastasiades and Akinci, three intensified rounds of negotiations have materialized during 2016 which accelerated the progress and resulted in the five-day meeting in Mont Pelerin, Switzerland, on November 7. The two leaders’ approach is quite different versus the 2004 Annan Plan, as they both want to ensure that any agreement reached would not be rejected by any of the two communities, meaning that some aspects included in the Annan plan, such as the thorny issue of securities and guarantees, should be amended. In the meantime, the international community contributed to the expectations for a comprehensive solution to be achieved by the two sides, primarily evidenced by the visits of several government high profile officials in Cyprus, including: (i) the US Vice President, Joe Biden; (ii) the US Secretary of State, John Kerry; (iii) the Russian Foreign Minister, Sergey Lavrov; and (iv) the EC’s President, Jean-Claude Junker, etc. The past 20 months of negotiations between the two leaders appear to have yielded positive results, at least, on four out of the six chapters under discussion (i.e. governance and power-sharing, economy, EU and property), however significant distance still separates the two sides on some vital aspects of the chapters on the negotiating table (i.e. the issues of territory and security and guarantees). On January 11 the two sides submitted maps citing the territorial criteria of each side. The agreed criteria provided that the extent of the land remaining under the Turkish Cypriot administration should range between 28.2%-29.2%. Despite the fact that this was both a historic (first time that each side submits its own map) and a positive development towards the negotiation procedure, the Greek Cypriot side identified that the map submitted by the Turkish Cypriot side does not address the aspirations of the Greek Cypriot community for just and fair territorial adjustments.

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Table 2: Timeline of events (November 2016 – February 2017) Date Event

November 7, 2016 Initiation of the five-day Switzerland-based talks, with the key territorial issue aiming to be discussed thoroughly

November 8, 2016 Discussion of the four chapters in which divergences still exist: (i) governance and power sharing; (ii) EU-related matters; (iii) property; and (iv) the economy

November 9, 2016 Initiation of discussion vis-à-vis the criteria on the territorial adjustment issue

November 10, 2016 Continuation of discussion on the territorial adjustment issue with the two leaders stating their positions in a document

November 11, 2016 Conclusion of the five-day Switzerland-based talks, with the two sides agreeing to re-convene and continue the dialogue on November 20, 2016

November 20, 2016 Initiation of the second round of the Switzerland-based talks with the primary focus being again the territorial adjustments issue

November 21, 2016

Conclusion of the second round of the Switzerland-based talks. The UN released a statement indicating that despite the best efforts of the two leaders, the Switzerland-based talks ended “unsuccessfully”, as the two leaders were not able to achieve the necessary convergences on the criteria for the territorial adjustment issue that would have paved the way for the last phase of the talks

November 24, 2016

The Cypriot President held a televised news conference briefing and explaining to the Cypriot people the reasons that resulted to the negative end of the second round of the Switzerland-based talks, avoiding at the same time to engage into a blame game. In addition, Anastasiades offered assurances that he will determinedly resume the dialogue with the Turkish-Cypriot side

December 1, 2016

Meeting of the two sides’ leaders under the auspices of the Special Representative of the UN Secretary-General on Cyprus, Espen Barth Eide. Both leaders agreed to immediately re-engage in the negotiations and have instructed their negotiators to continue meeting, three times a week, in order to achieve further progress on all outstanding issues interdependently

January 9, 2017 Initiation of the two sides’ leaders’ meeting in Geneva, starting the discussion with the chapters of property, governance and security and guarantees

January 11, 2017 Leaders presented their respective maps which were then kept in a vault under the protection of the UN

January 12, 2017 Scheduled multilateral conference, with the involvement of the three guarantor powers, and the EU which assumed the role of an observer and an advisor.

January 13, 2017 Continuation of the conference which resulted in the conclusion that further discussion on the security and guarantees issue is essential.

January 18, 2017 A team of specialists was formed, following the decision on January 13, and met in Mont Pelerin to continue the negotiations on the security and guarantees issue. In the meantime, all outstanding issues are expected to be discussed between the two leaders in Cyprus.

January 20, 2017 Conclusion of the working groups discussion, which if ended successfully will result in a new five party conference

February, 2017 Possibly a new five-party conference on the issue of security and guarantees

Source: AXIA Research

The conference on January 12, with the additional participation of the three guarantor powers and the EU as an observer, was the stepping stone for a discussion on the issue of security and guarantees to initiate. The conference has paved the way for further technical deliberations to occur, during January 18-19, which are expected to culminate further political discussions and lead to a final conference at a high political level to occur. Although the outcome of the technical discussions on the issue of security and guarantees was not publicly disclosed, we note that deliberations were conducted on a scenario proposed by the Greek Cypriot side. Such a proposal according to the Deputy Government Spokesperson, Victoras Papadopoulos, involves the removal of 75% of the Turkish troops currently on the island from the first day of the solution, while the full removal of the Turkish troops will be materialized over a predetermined and short transitional period. On January 23, the Special Representative of the UN Secretary-General on Cyprus, Espen Barth Eide, briefed the UN Security Council members on the latest developments on the Cyprus problem. Following the meeting, Eide stated that the UN will do its utmost to help promote the reunification of the island adding that the two sides and the three guarantor powers are ready to search for new solutions on the issue of the security and guarantees. Continuing on, Eide highlighted that there is a short window of opportunity to reach a comprehensive solution at the current time and it should not be wasted, as no one knows when another opportunity might arise.

Is a solution within reach? It is difficult to assess when this round of talks will be concluded and what will be the outcome, as these are “open ended” negotiations exactly because the parties involved do not want to be pressured by time. Still there are some catalytic deadlines ahead: (i) the Turkish constitution change that will give Erdoğan even more political leverage within Turkey if approved in the referendum; and (ii) the Greek-Cypriot presidential elections in February 2018. In any case, we view that there are two possible scenarios: 1) Reaching a comprehensive solution

If the efforts of the five parties come to fruition and an agreement is reached on the territorial adjustments and the security and guarantees issues then a comprehensive settlement will be reached providing the right circumstances for two separate referenda to be conducted (in each community).

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32%

24%

10%

7%

6%

5%

5%

2%

2%

2%

2%

1%

1%

1%

0% 10% 20% 30% 40%

No one

Nicos Anastasiades

Nicholas Papadopoulos

Not decided

Andros Kyprianou

Giorgos Lillikas

Eleni Theocharous

Marinos Sizopoulos

Giorgos Perdikis

Nicos Katsourides

Averof Neophytou

Christos Christou

A technocrat

Nicos Christodoulides

28% 24%

9% 7% 7% 7%

5% 4%

2% 2%

1% 1% 1% 1% 1%

0% 5% 10% 15% 20% 25% 30%

No one Nicos Anastasiades

Nicholas Papadopoulos Not decided

Andros Kyprianou A technocrat

Eleni Theocharous Giorgos Lillikas

Marinos Sizopoulos Giorgos Perdikis

Christos Christou Averof Neophytou Nicos Katsourides

Kipros Chrisostomides Nicos Christodoulides

10%

24%

61%

5%

0%

10%

20%

30%

40%

50%

60%

70%

The continuation of the guarantees will be

accepted in the context of the 1960 agreements if the

Greek-Cypriot side is satisfied

The continuation of the guarantees will be

accepted

The continuation of the guarantees under any

condition

Undecided

We view that a key catalyst that would enable an agreement to be reached on the security and guarantees issue is the domestic political developments in Turkey. The majority of the Turkish MPs have approved a constitutional reform package (a total of 18 amendments) which would place remarkable executive powers in Erdoğan’s hands. Such powers encompass the provisions that Erdoğan will become the sole executive head of the State, with authority to choose his own Cabinet of Ministers, enact laws, call elections or declare states of emergency. The amended constitution still needs to be adopted through an upcoming referendum in April. If the constitutional reform is approved by the people, then Erdoğan’s focus on the Cyprus problem is likely to be accompanied by more flexibility as the executive power that will be vested upon him could allow him to sufficiently maneuver around the Cyprus issue without the support of the ruling AK party and the right-wing Nationalist Movement party. Reaching a solution and getting all the involved parties to agree on the security and guarantees issue is the one side of the equation. The other side envisages the approval of the solution by the island’s two communities. To reach that point, the agreement should encompass and address both sides’ concerns and will require the political parties’ unity primarily on the Greek Cypriot side where the political landscape is more complex (as evidenced in the rejection of the 2004 Annan plan). When it comes to the Cyprus problem, the Greek Cypriot ruling party (DISY) enjoys the support only of the main opposition party (AKEL) out of the eight parties in total. However, we note that the latter will be adequate as the two parties combined, form the majority of the Greek Cypriot voters. In addition to the latter and according to recent polls, the president of the RoC seems to be the most suitable president both for the next five-year term of RoC but also as the president of the new federal state if an agreement is reached.

Figure 6: Greek Cypriots’ view on next president Figure 7: Greek Cypriots’ view on president following solution

Source: IMR poll January 20, 2017, AXIA Research

nono

Note

Still, Greek Cypriots are very reluctant when it comes to the sensitive issue of security and guarantees as the continuation of the current system seems not to be accepted by 60% of the voters, while almost 70% of the Greek Cypriot voters are opposed to the idea of a rotating presidency or not returning Morphou to the Greek Cypriot administration.

Figure 8: Greek Cypriots’ view on the security and guarantees issue

Source: Kathimerini poll January 8, 2017, AXIA Research

If the presidential elections take place

tomorrow, who do you think is the most suitable to be the

president?

If a comprehensive solution is agreed

tomorrow, who will be the most suitable president for the federal Cyprus?

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66%

34%

Should the president agree in a solution that does not invlolve the return of the wider area of Morphou?

No

Yes

66%

34%

Should the president agree in a solution that involves a rotating presidency?

No

Yes

Figure 9: Greek Cypriots’ view on the issue of Morphou Figure 10: Greek Cypriots’ view on rotating presidency issue

Source: IMR poll January 20, 2017, AXIA Research

nono

Note

Finally, we note that following the agreement the authorities will need 2-3 months to prepare the constitutions of the federal state and the two constituent states. Following that period, another 2-3 months will be given to the citizens in order to discuss, read and learn what the solution encompasses before holding the two separate referenda on the two communities.

2) End of the current negotiations Such a scenario provides that the two leaders and the three guarantor powers are unable to reach convergences on all the outstanding issues and the current UN-led negotiation procedure ends. Most likely, as history has proven, negotiations would re-initiate in the future but after some time. However, if talks break down, there is a genuine risk that Cyprus could be divided in two parts, a risk that is exacerbated by earlier statements of Akinci and Erdoğan, who noted that Turkey could annex the northern part of Cyprus. Even if the annexation scenario proves to have been a mere threat, there is a real possibility that the division will become permanent. Beyond the immediate impacts and the loss of any perceived peace dividend, the latter will have a direct impact on the RoC and its plans towards the energy sector’s developments, as Turkey is expected to strengthen its demands for a share of the Cyprus’ EEZ and the future profits from natural resources’ exploitation. Nevertheless the aforementioned permanent division scenario is not likely to occur if the negotiations end. Most possibly negotiations will re-start with a significant time lag given the political triggers on both sides of the island (i.e. the Greek Cypriot presidential elections in February 2018 and the Turkish Cypriot presidential elections in April 2020).

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Appendix

Table 1: Political parties in the RoC

Political party Abbr. Political stance Leader Parliamentary seats

Democratic Rally DISY Conservatism Averof Neophytou 18

Progressive Party of Working People AKEL Communism Andros Kyprianou 16

Democratic Party DIKO Centrism Nicholas Papadopoulos 9

Movement for Social Democracy EDEK Social Democracy Marinos Sizopoulos 3

Citizens' Alliance SYPOL Populism Giorgos Lillikas 3

Solidarity Movement KA National conservatism Eleni Theocharous 3

Green Party KOSP Green politics Giorgos Perdikis 2

National Popular Front ELAM Ultranationalism Christos Christou 2

Total 56

Source: AXIA Research

From Papadopoulos to Anastasiades and from Denktaş to Akinci Since early 2000 the desire of both Cyprus and Turkey to join the EU led to renewed efforts to reach a settlement which was effectively portrayed in Turkish Cypriots efforts that demanded the reunification of the island, which would give them EU citizenship when Cyprus joined the EU in 2004. In 2003, the centrist (DIKO) Tassos Papadopoulos, was elected as the president of the Republic of Cyprus for five years, while on the self-proclaimed “TRNC”, president was the four times elected and founding president of the “TRNC” in 1983, Rauf Denktaş. Publicly, both were committed to reaching a solution on the Cyprus problem with the endgame being the two referenda. After the Annan Plan failure in 2004, Cypriots witnessed four years of relative stalling as Papadopoulos, who has campaigned against the plan his administration has negotiated, and the other side’s leaders (initially Denktaş and then Talat) did not depict the willingness that was expected. In 2008, a new round of negotiations begun with the participation of the “pro-peace” leftist leaders on both sides, Demetris Christofias (Greek Cypriots’ leader; elected in 2008) and Mehmet Ali Talat (Turkish Cypriot’s leader; elected in 2005), which was hampered by the demand of Christofias that negotiations would start from the beginning and his campaign promise that the Annan plan was “dead and buried”, which was not received well by the Turkish Cypriots. The inability of the two leaders to reach an agreement that could go to referendum combined with the financial crisis that emerged primarily on the southern part of the island in 2011, meant that the next several years of negotiations were held hostage to domestic politics on both sides of the island. In the meantime, a new “hard-liner” president in the “TRNC” was elected in 2010, Derviş Eroğlu, while in 2013, a right-wing president, Nicos Anastasiades (one of the few Greek Cypriot leaders to have supported the Annan Plan) succeeded Christofias. On February 11, 2014, a Joint Declaration between Anastasiades and the former Turkish-Cypriot leader, Derviş Eroglu, was signed, underlining that a settlement should respect the democratic principles, human rights and fundamental freedoms of Greek Cypriots and Turkish Cypriots alike and ensure their common future in a united Cyprus within the European Union. However, negotiations aiming at the reunification of the island proceeded erratically with neither side fully committed until the “TRNC’s” surprise election of Mustafa Akinci as Eroğlu’s replacement in April 2015.

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Disclosures General information This research report was prepared by AXIA Ventures Group Limited, a company incorporated under the laws of Cyprus (referred to herein, together with its subsidiary companies and affiliates, collectively, as “AXIA”) which is authorised and regulated by the Cyprus Securities and Exchange Commission (authorisation number 086/07). AXIA is authorized to provide investment services in the United Kingdom, Cyprus, Greece and in Portugal pursuant to its permissions under the Markets in Financial Instruments Directive and may also provide similar services in other countries, inside or outside of the European Union, subject to the applicable provisions. AXIA Ventures Group Limited is not a registered broker-dealer in the United States (U.S.), and, therefore, is not subject to U.S. rules regarding the preparation of research reports and the independence of research analysts. In the U.S., this research report is intended solely for persons who meet the definition of “major U.S. institutional investors” in Rule 15a-6 under the U.S. Securities and Exchange Act, as amended, or persons listed under Rule 15a-6(4)) and is meant to be disseminated only through “Axia Capital Markets LLC”, a wholly owned subsidiary of AXIA Ventures Group Limited and associated US registered broker-dealer in accordance with Rule 15a-6 of the US Securities and Exchange Act. Content of the report The persons in charge of the preparation of this report, the names of whom are disclosed below, certify that the views and opinions expressed on the subject security, issuer, companies or businesses covered by this research report (each a “Subject Company” and, collectively, the “Subject Companies”) are their personal opinions and that no part of their compensation was, is or will be directly or indirectly related to the specific recommendations or views contained in this research report. Whilst all substantial sources of information for the research are indicated in this report, including, without limitation, bases of valuation applied to any security or derivative security, such information has not been disclosed to the Subject Companies for their comments and no such information is hereby certified. All information contained herein is subject to change at any time without notice. No member of AXIA has an obligation to update, modify or amend this research report or to otherwise notify a reader thereof in the event that any matter stated herein, or any opinion, projection, forecast or estimate set forth herein, changes or subsequently becomes inaccurate, or if research on the Subject Company is withdrawn. Further, past performance is not indicative of future results. Person responsible for this report: Constantinos Zouzoulas (analyst). Key Definitions

AXIA Research 12-month rating*

Buy The stock to generate total return** of and above 10% within the next 12-months

Neutral The stock to generate total return**between -10% and 10% within the next 12-months

Sell The stock to generate total return** of and below -10% within the next 12 months

Under Review Stock’s target price or rating is subject to possible change

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* Exceptions to the bands may be granted by the Investment Review Committee of AXIA taking into account specific characteristics of the Subject Company **Total return: % price appreciation equals percentage change in share price from current price to projected target price plus projected dividend yield. AXIA Ventures Group Limited Rating Distribution as of today

Coverage Universe Count Percent Of which Investment

Banking Relationships Count Percent

Buy 11 65% 3 3 18% Hold 6 35%

Sell Restricted

Not Rated Under Review 1 6%

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