Throughout the last two quarters I have bandied about corny, colloquial, yet highly descriptive articles describing the factual representation of Spain's outlook, such as The Economic Bloodstain From Spain's Pain Will Cause European Tears To Rain or You Have Not Known Pain Until You've Tried To Limit The Borrowing Costs of Spain!!! Well, as humorous as my nascent stand-up routine may appear to be, the facts of the matter should have market participates on edge. 

Fact 1: As revealed in the post, The Embarrassingly Ugly Truth About Spain: The IMF, EC and ALL Major Rating Agencies Are LYING!!! Spain has serious asset/liablity mismatch and extreme issues with NPAs in its banking system. It will NOT be able to grow out of this situation in the near term and this was apparent 3 years ago! 

I warned that Spain was effectively ignoring some very large, bank related and budgetary problems as far back as 2009/10.... Reference The Spain Pain Will Not Wane: Continuing the Contagion Saga:

In the general our analysis Spain public finances projections_033010, the first four (of 12) pages basically outline the gist of the Spanish problem today, to wit here are the first two:

Spain_public_finances_projections_033010_Page_02

Fact 2: These NPAs will get much worse before they get better, detailed in As The Truth Catches Up With Spain, Will Banks Finally Be Forced To Mark To Market? You don't need my analysis to see the light. Spain currently sports more than  than 50% youth unemployment. Greater than 50% - and it's major grading partners are not far behind, or even far ahead!

See this chart from  ZeroHedge:

Data: Bloomberg and Greek Statistics Office

Fact 3: Spain is already on FIRE, yet so few refuse to smell the fumes.

What is FIRE? See Reggie Middleton Sets CNBC on F.I.R.E.!!! and First I set CNBC on F.I.R.E., Now It Appears I've Set...

For more on this, see The F.I.R.E. Is Set To Blaze! Focus On Banks, part 1. A lot of people, even professionals, truly believed that the FIRE malaise would not be European in nature. Whaattt????!!!

Here are some more anecdotal facts fanning the FIRE...

Egypt Pays Less Than Spain for Euros as IMF Talks Persist

Businessweek- Egypt locked in lower borrowing costs than higher-rated Spain in selling a more-than-planned 640.2 million euros ($817 million) of debt, 

Spain's bad loan ratio hits new record of 10.7%: central bank

MADRID -- Spanish banks' bad loans surged to a new record level in September with more than one in ten classed as high risk, the central ...

Spain Sells 4.94 Billion Euros of Debt, Exceeding Maximum Target

Spain exceeded its maximum target at an auction of bills and its borrowing costs were little changed from a month ago as euro region finance ..

To bad the Spanish aren't Egyptians, though... Egypt Pays Less Than Spain for Euros as IMF Talks Persist

Egypt locked in lower borrowing costs than higher-rated Spain in selling a more-than-planned 640.2 million euros ($817 million) of debt, ..

The Spanish heat is not just in real estate and banking, either. Reference this European Insurer That Needs Insurance As $6B Of Its Bonds Are Instantly Subordinated Due To "Spain's Pain". Insurers are very heavy investors in European sovereign debt AND the debt of financial institutions. This is a wonderful place to be when you are recovering from the most expensive natural disaster that hit the US eastern seaboard, eh? But hey, weren't the European financial institutions getting killed by choking on Sovereign debt (reference Dead Bank Deja Vu? How The Sovereigns Killed Their Banks & Why Nobody Realizes They're Dead)? You know the saying, "You can run but you can't hide?" Well, banking officials have been doing a lot of hiding (of NPAs), and soon its going to be time for the running to come into play. In case you missed the pun, European Bank Run Watch: Spaniard Edition

It would be interesting to see who will be in the condition to feast at the Spanish barbecue...

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Five months ago I posted Moody's Actions Add Pressure To The Inevitable In France? Yesterday we see MOODY'S DOWNGRADES FRANCE'S GOVT BOND RATING TO Aa1 FROM Aaa as well as FRANCE MAINTAINS NEGATIVE OUTLOOK BY MOODY'S. As excerpted from the Moody's press release (emphasis supplied by ZeroHedge)...

Moody's decision to downgrade France's rating and maintain the negative outlook reflects the following key interrelated factors:
1.) France's long-term economic growth outlook is negatively affected by multiple structural challenges, including its gradual, sustained loss of competitiveness and the long-standing rigidities of its labour, goods and service markets.
2.) France's fiscal outlook is uncertain as a result of its deteriorating economic prospects, both in the short term due to subdued domestic and external demand, and in the longer term due to the structural rigidities noted above.
3.) The predictability of France's resilience to future euro area shocks is diminishing in view of the rising risks to economic growth, fiscal performance and cost of funding. France's exposure to peripheral Europe through its trade linkages and its banking system is disproportionately large, and its contingent obligations to support other euro area members have been increasing. Moreover, unlike other non-euro area sovereigns that carry similarly high ratings, France does not have access to a national central bank for the financing of its debt in the event of a market disruption.

Moreover, France's credit exposure to the euro area debt crisis has been growing due to the increased amount of euro area resources that may be made available to support troubled sovereigns and banks through the European Financial Stability Facility (EFSF), the European Stability Mechanism (ESM) and the facilities put in place by the European Central Bank (ECB). At the same time, in case of need, France -- like other large and highly rated euro area member states -- may not benefit from these support mechanisms to the same extent, given that these resources might have already been exhausted by then.

In light of the liquidity risks and banking sector risks in non-core countries, Moody's perceives an elevated risk that at least part of the contingent liabilities that relate to the support of non-core euro area countries may actually crystallise for France. The risk that greater collective support will be required for weaker euro area sovereigns has been rising, most for notably Spain, whose economy and government bond market are around twice the combined size of those of Greece, Portugal and Ireland. Highly rated member states like France are likely to bear a disproportionately large share of this burden given their greater ability to absorb the associated costs.

More generally, further shocks to sovereign and bank credit markets would further undermine financial and economic stability in France as well as in other euro area countries. The impact of such shocks would be expected to be felt disproportionately by more highly indebted governments such as France, and further accentuate the fiscal and structural economic pressures noted above. While the French government's debt service costs have been largely contained to date, Moody's would not expect this to remain the case in the event of a further shock. A rise in debt service costs would further increase the pressure on the finances of the French government, which, unlike other non-euro area sovereigns that carry similarly high ratings, does not have access to a national central bank that could assist with the financing of its debt in the event of a market disruption.

Excerpts from my warning 5 months ago, which has a slightly different, although potentially more realistic bent...

As a result Italian yields went up a few days ago - Italian Yields Forced Higher on Rating's Cut Ahead of Debt Sale, and went even higher today as Bund yields were actually issued with negative yields pushing that spread/gap ever wider... Bunds rise as Germany sells debt at negative yields

Italian 10-year yields were four basis points up at 6.07 percent, with two-year debt underperforming, yielding 8 bps more on the day at 3.96

Mish (Mike Shedlock) adds... Italy GDP expected to contract by 2% globaleconomicanalysis.blogspot.com/.../

So, when are the alarms going to be sounded by anybody other then BoomBustBlog for France??? I have made this quite clear in the past, namely in Watch The Pandemic Bank Flu Spread From Italy To France To ... where I simply quoted the arithmetical obvious, then in French Banks Can Set Off Contagion That Will ... where I basically did the same. The French banking problem is woefully unrecognized, although I'm sure the rating agencies will pick up on it this time next year, after the collapse and/or bank run. This is basically the gist behind that hard hitting European documentary on the US rating agencies...

24398 kReggie_VPRO_Ratings_agencies

Continuing my rant on the effectiveness (not) of the ratings agencies, I bring to you an interesting documentary on the rating agencies' effect on the sovereign debt crisis in Europe, produced by VPRO Tegenlicht out of Amsterdam. You can see the full video here, but only about half of it is in English. I appear in the following spots: 4:00, 22:30, 40:00...

Reggie Middleton Discussing the Rating Agencies effect on Sovereign Europe

Subscribers can reference French Bank Observations & Focus on...(519.21 kB 2012-06-28 08:36:37).  Part and parcel to this common sense update is recognition of the fact that Italy will bust French banks, causing France to do the socialist bailout thingy. See this chart from the report...

27765French bank Italian exposure 

French bank Italian Exposure: As Italy pops with outrageous funding yields (just like Greece), France will be forced to bailout its banks once again, leaving the socialist country facing the dilemma of potentially having to ask for a bailout itself. As you may know from my previous writings, the French banking system is bigger than France itself so a true bailout cannot practically come from within.

Another BIG Reason Why BNP Paribas Is Still Ripe For Implosion!

As excerpted from our professional series File Icon Bank Run Liquidity Candidate Forensic Opinion:

BNP Paribus First Thoughts 4 Page 01

This is how that document started off. Even if we were to disregard BNP's most serious liquidity and ALM mismatch issues, we still need to address the topic above. Now, if you were to employ the free BNP bank run models that I made available in the post "The BoomBustBlog BNP Paribas "Run On The Bank" Model Available for Download"" (click the link to download your own copy of the bank run model, whether your a simple BoomBustBlog follower or a paid subscriber) you would know that the odds are that BNP's bond portfolio would probably take a much bigger hit than that conservatively quoted above.  Here I demonstrated what more realistic numbers would look like in said model... 

image008image008image008

To note page 9 of that very same document addresses how this train of thought can not only be accelerated, but taken much further...

BNP Paribus First Thoughts 4 Page 09BNP_Paribus_First_Thoughts_4_Page_09BNP_Paribus_First_Thoughts_4_Page_09

So, how bad could this faux accounting thing be? You know, there were two American banks that abused this FAS 157 cum Topic 820 loophole as well. There names were Bear Stearns and Lehman Brothers. I warned my readers well ahead of time with them as well - well before anybody else apparently had a clue (Is this the Breaking of the Bear? and Is Lehman really a lemming in disguise?). Well, at least in the case of BNP, it's a potential tangible equity wipe out, or is it? On to page 10 of said subscription document...

BNP Paribus First Thoughts 4 Page 10BNP_Paribus_First_Thoughts_4_Page_10BNP_Paribus_First_Thoughts_4_Page_10

Yo, watch those level 2s! Of course there is more to BNP besides overpriced, over leveraged sovereign debt, liquidity issues and ALM mismatch, and lying about stretching Topic 820 rules, but I think that's enough for right now. Is all of this already priced into the free falling stock? Are these the ingredients for a European bank run? I'll let you decide, but BoomBustBloggers Saw this coming midsummer when this stock was at $50. Those who wish to subscribe to my research and services should click here. Those who don't subscribe can still benefit from the chronology that led up to the BIG BNP short (at least those who have come across my research for the first time)...

Thursday, 28 July 2011  The Mechanics Behind Setting Up A Potential European Bank Run Trastde and European Bank Run Trading Supplement

I identify specific bank run candidates and offer illustrative trade setups to capture alpha from such an event. The options quoted were unfortunately unavailable to American investors, and enjoyed a literal explosion in gamma and implied volatility. Not to fear, fruits of those juicy premiums were able to be tasted elsewhere as plain vanilla shorts and even single stock futures threw off insane profits.

Wednesday, 03 August 2011 France, As Most Susceptble To Contagion, Will See Its Banks Suffer

In case the hint was strong enough, I explicitly state that although the sell side and the media are looking at Greece sparking Italy, it is France and french banks in particular that risk bringing the Franco-Italia make-believe capitalism session, aka the French leveraged Italian sector of the Euro ponzi scheme down, on its head.

I then provide a deep dive of the French bank we feel is most at risk. Let it be known that every banked remotely referenced by this research has been halved (at a mininal) in share price! Most are down ~10% of more today, alone!

Subscribers, see also 

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ZeroHedge reports: EURUSD Soars As Eurogroup Calls IMF Bluff

Whether it is a pure low volume technical run for the 200DMA, or fundamental bias as 'officials' comment that the release of a EUR44bn aid tranche to Greece is expected by December 5th, is unclear. One thing is certain, the Eurogroup is placing the decision squarely back in Madame Lagarde's lap as it appears to be behaving as if the IMF's threat not to disburse funds (due to Greece's unsustainable debt load) does not exist. While Lagarde is unlikely to want to be the trigger for GRExit, the non-European members may have differing perspectives or will they all just continue kicking the can down the road - proving once and for all that all the power lies with the Greeks as their supposed overlords "can't handle the truth".


Yeah, I know no one wants to hear it, but I told you so. This situation was clear from the start, the very day that Greece defaulted the FIRST time. Until the 3rd default, I can simply keep cutting and pasting the following, for a negative Primary Balance simply prevents anyone from sinking money into Greece from getting it back - PERIOD!!!

As The Year Comes An End The Ability Of Greece To Kick The Can Mirrors The Chances Of A Man With No Feet

Despite extensive, self-defeating, harsh and punitive austerity measures that have combined with a lack of true economic stimulus, Greece has (to date) failed to achieve Primary Balance. For the non-economists in the audience, primary balance is the elimination of a primary deficit, yet the absence of a primary surplus, ex. the midpoint between deficit and surplus before taking into consideration interest payments.

Greece_Primary_balanceGreece_Primary_balanceGreece_Primary_balanceGreece_Primary_balance

The primary balance looks at the structural issues a country may have.

Government expenditures have outstripped revenues ever since 2007 and have gotten worse nearly every year since, despite 3 bailouts a restructuring, austerity and a default!

Greece_Primary_deficit_copyGreece_Primary_deficit_copy

 

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Many have asked me if I believe in austerity measures or the Keynsian approach of spending out of recession. I have stated, time and again, that the question is loaded - hence the answer can never be sufficient. When you are trying to go from your home to the market across town in a crowded urban environment, you cannot make the trip successfully by deciding ahead of time that you are just going to make left turns (austerity? Austrian?) or right turns (stimulus? Keynsian?). You come to an intersection and you make the turn that's necessary to get you where you want to go. It might sound overly simplistic and common, but I'll be damned if common sense is one of the most uncommon things I've come across over the last 7 years or so!

On that note, there does appear to be a misunderstanding on how government finances work as compared to finances in the private sector. The government is not a for profit player that competes directly with those in the private sector, but is instead a universal support network that benefits from the success of the private sector. Hence, the government must work in the best interests of the private sector in order to thrive. This sometimes entails taking the other side of the trade to ensure that a trade can take place. One pundit who has done a good job of explaining this through pretty charts that explain the peculiar situation that we are now in (a balance sheet recession), is Dr. Richard Koo of Nomura Securities. See the FT.com article abstract:

In 2008, Barack Obama told the US people the nation’s economic crisis would take a long time to overcome. In 2012, many of those voters are losing patience, because they have not been told why this recession has lasted so long or why his policies were the correct response. Here is the missing explanation – based on not only the US experience, but also that of Japan and Europe. 

when-the-government-tries-premature-fiscal-consolidation-things-get-much-worse-and-debt-goes-higher

Today, the US private sector is saving a staggering 8 per cent of gross domestic product – at zero interest rates, when households and businesses would ordinarily be borrowing and spending money. But the US is not alone: in Ireland and Japan, the private sector is saving 9 per cent of GDP; in Spain it is saving 7 per cent of GDP; and in the UK, 5 per cent. Interest rates are at record lows in all these countries.

For those who may not get the gravity of this statement, it makes no sense to save money with a negative risk/reward proposition, unless of course the saver does not see it that way. One must save if savings are in deficit, and the risk to invest funds is considered greater than the benefit of having said funds in the first place. We are still attempting to wade through the bursting of a massive bubble, and we are playing defensive - not offensive.  In other words, are Americans seeking return OF capital over return on said capital? We are over-leveraged, and to effectively delever you cannot borrow more money or take the risk of aggressive investments. This is so even if investment capital is being offered at zero interest rates. Mr. Koo illustrates the consequences of such behavior eloquently...

However, if someone is saving money or paying down debt, someone else must be borrowing and spending that money to keep the economy going. In a normal world, it is the role of interest rates to ensure all saved funds are borrowed and spent, with interest rates rising when there are too many borrowers and falling when there are too few. 

But when the private sector as a whole is saving money or paying down debt at zero interest rates, the banks cannot lend the repaid debt or newly deposited savings because interest rates cannot go any lower. This means that, if left unattended, the economy will continuously lose aggregate demand equivalent to the unborrowed savings. In other words, even though repairing balance sheets is the right and responsible thing to do, if everyone tries to do it at the same time a deflationary spiral will result. It was such a deflationary spiral that cost the US 46 per cent of its GDP from 1929 to 1933. 

Those with a debt overhang will not increase their borrowing at any interest rate; nor will there be many lenders, when the lenders themselves have financial problems. This shift from maximising profit to minimising debt explains why near-zero interest rates in the US and EU since 2008 and in Japan since 1995 have failed to produce the expected recoveries in these economies. 

For some reason, the Fed doesn't seem to get what Mr. Koo and BoomBustBloggers do!

With monetary policy largely ineffective and the private sector forced to repair its balance sheet, the only way to avoid a deflationary spiral is for the government to borrow and spend the unborrowed savings in the private sector.

Wait a minute! The EU states are definitely borrowing, but they are not redploying the capital back into the private sector, they are simply bailing out banks! In addition, the banks are not deploying the capital into the private sector, they are simply sitting on it, just as Mr. Koo stated they would in the article excerpt above! So, after trillions of borrowing, there's no surprise why there's just relatively pennies making it into the private sector. What Mr. Koo and many who follow Keynsian economic theories seem to forget to include, is that upon borrowing the money to plunge into the private sector, you have to have a plan for paying said monies back. When you borrow said monies and simply waste them (ex. perpetual dead bank bailouts) you create a truly structural problem. Simply ask Greece, or see How Greece Killed Its Own Banks! and then move on to...

As The Year Comes An End The Ability Of Greece To Kick The Can Mirrors The Chances Of A Man With No Feet

Despite extensive, self-defeating, harsh and punitive austerity measures that have combined with a lack of true economic stimulus, Greece has (to date) failed to achieve Primary Balance. For the non-economists in the audience, primary balance is the elimination of a primary deficit, yet the absence of a primary surplus, ex. the midpoint between deficit and surplus before taking into consideration interest payments.

Greece_Primary_balanceGreece_Primary_balanceGreece_Primary_balance

The primary balance looks at the structural issues a country may have.

Government expenditures have outstripped revenues ever since 2007 and have gotten worse nearly every year since, despite 3 bailouts a restructuring, austerity and a default!

Greece_Primary_deficit_copy

On to Mr. Koo's diatribe... 

Recovery from this type of recession takes time because the flow of current savings must be used to reduce the stock of debt overhang, necessarily a long process when everyone is doing it at the same time. Since one person’s debt is another person’s asset, there is no quick fix: shifting the problem from one part of society to another will solve nothing.

The challenge now is to maintain fiscal stimuli until private sector deleveraging is completed. Any premature attempt to withdraw that stimulus will result in a deflationary implosion – as in the US in 1937, Japan in 1997, and Spain and the UK most recently.

Japan’s attempt in 1997 to reduce its deficit by 3 per cent of GDP – the same size as the “fiscal cliff” now facing the US – led to a horrendous 3 per cent drop in GDP and a 68 per cent increase in the deficit. At that time, Japan’s private sector was saving 6 per cent of GDP at near zero interest rates, just like the US private sector today. It took Japan 10 years to climb out of the hole.

when-the-government-tries-premature-fiscal-consolidation-things-get-much-worse-and-debt-goes-higher

Average citizens find it hard to understand why the government should not balance its budget when households and businesses must all do so. It is risky for politicians to explain but, until they make it clear that the economy will implode if everybody is saving and nobody is borrowing, public support for the necessary fiscal stimulus is likely to weaken, as seen during the past four years of the Obama administration.

The US economy is already losing forward momentum as the 2009 fiscal stimulus is allowed to expire. There is no time to waste: the government must take up the private sector’s unborrowed savings, to keep the economy from imploding and to provide income for businesses and households so they can repair their balance sheets. Fiscal consolidation should come only once the private sector has repaired its finances and returned to profit-maximising mode.

I have ventured along these lines several times in the past. Here is the subscription research that I feel is best poised to take advantage of the guaranteed mistakes to be made ahead, simply click your industry/sector for the most recent research (note, non-subscribers will only be able to view free reports, you may click here to subscribe)...

As for whether Mr. Koo is correct in the application of severe austerity when one should be trying to prime the pump....

Greece Is To Pathogen As Cyprus Is To Contagion As Spain Is To Infected...

CNBC reports Greece Austerity Strike Will Hurt GDP Further even as Cyprus Expects Bailout as S&P Cuts Ratings to Junk:

Cyprus said on Wednesday it expected talks to start with lenders on badly needed aid next week, as ratings agency Standard & Poor's pushed it deeper into junk territory, implying domestic political expediency lay behind a delay in clinching a deal. One of the smallest nations in the euro zone, Cyprus sought European Union (EU) and International Monetary Fund (IMF) aid in June after its two largest banks suffered huge losses due to a write-down of Greek debt.

Well, our Contagion Model showed clear paths of the knock on effects of Greek infection, and we haven't even gotten started with the economic pathogen party yet!

 

Although it seems as if Tyler is being a smart ass, he couldn't be farther from the truth. Reference my piece Lies, Damn Lies, and Sovereign Truths: Why the Euro is Destined to Collapse! concerning the accuracy of the IMF's baseline scenarios...

image005.pngimage005.png

And back to the ZH post:

....Breakdown of IMF deleveraging forecasts for the three scenarios, of which the realistic one is highlighted:

  • Under weak policies, the withdrawal of foreign investors accelerates to twice the pace seen since 2009. Periphery spreads widen by about one standard deviation above the baseline.

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ZeroHedge, in its snarky, smart ass, Reggie Middleton-like manner made me chuckle this morning with this headline: Mario Draghi Sends Risk Reeling After Exposing Bitter European Truth

It was shaping up like the perfect overnight ramp following yesterday's Goldilocks election result... and then Mario Draghi opened his mouth.

    • DRAGHI SAYS DEBT CRISIS STARTING TO HURT GERMAN ECONOMY
    • DRAGHI SAYS GERMAN RATES LOWER THAN THEY WOULD BE OTHERWISE

And so finally, after months and months of explaining the fundamental dichotomy in Europe (see here), it is finally becoming transparent. And it is as follow: Germany, which is the economic dynamo of Europe, needs a weaker EURUSD to keep its export economy running. Period, end of Story. The problem is that the lower the EURUSD, the greater the implied and perceived EUR redenomination risk, which in turns send the periphery reeling, and will force first Spain, and then everyone else to eventually demand (not request) a bailout.

A quick search on the topic reveals much more of the same...

Draghi admits Germanys f234ked

I emphasize this point because this problem was woefully evident nearly a dull year ago. On Thursday, 12 January 2012, after railing on the US education system (How Inferior American Education Caused The Credit/Real Estate/Sovereign Debt Bubbles and Why It's Preventing True Recovery), I made clear to all Harry Potter aficionados (you know, those Euro-types who would rather believe magic over math) that biggest threat to the 2012 economy was sitting right beneath their noses couched as a savior more than a threat. Reference The Biggest Threat To The 2012 Economy Is??? Not What Wall Street Is Telling You..., wherein I painstakingly took the tie to attempt to reassert the authority of math over magic. With the exclusion of central bank mysticism and the attrition of the belief that these bastards can create something out of nothing, or more to the point, can drive nearly everything towards nothing and then suddenly state that they have created something, I bring you my warning prescient warning on Germany and the macro-fundamental call to be aware of the bear Bund trade, to wit:

I believe Germany poses the biggest threat to global harmony for 2012. Here's why...

European banks are (in addition to borrowing on a secured basis from those customers they usually lend to) also paying insurers and pension funds to take their illiquid bonds in exchange for better quality ones, in a desperate bid to secure much-needed cash from the ECB, which only provides cash against collateral. This may not be as safe a measure as it sounds. Below is a sensitivity analysis of Generali's (a highly leveraged Italian insurer, subscribers see File Icon Exposure of European insurers to PIIGS) sovereign debt holdings.

image004image004

As you can see, Generali is highly leveraged into PIIGS debt, with 400% of its tangible equity exposed. Despite such leveraged exposure, I calculate (off the cuff, not an in depth analysis) that it took a 10% hit to Tangible Equity. Now, that's a lot, but one would assume that it would have been much worse. What saved it? Diversification into Geman bunds, whose yield went negative, thus throwing off a 14% return. Not bad for alleged AAA fixed income. But let's face it, Germany lives in the same roach motel as the rest of the profligate EU, they just rent the penthouse suite! Remember, Germany is not in recession after a rip roaring bull run in its bonds, and I presume the recession should get much deeper since as a net exporter it has to faces its trading partners going broke. Below you see what happens if the bund returns were simply run along the historical trend line (with not extreme bullishness of the last year).

image005image005

Companies such as Generali would instantly lose a third of their tangible equity. This is quite conservative, since the profligate states bonds would probably collapse unless the spreads shrink, which is highly doubtful. Below you see what would happen if bunds were to take a 10% loss.

image006image006

That's right, a 10% loss in bunds translates into a near 50% loss in tangible equity to this insurer, which would realistically be 60% plus as the rest of the EU portfolio will compress in solidarity. Combine this with the fact that insurers operating results are facing historically unprecedented stress (see You Can Rest Assured That The Insurance Industry Is In For Guaranteed Losses!) and it's not hard to imagine marginal insurers seeing equity totally wiped out. The same situation is evident in banks and pension funds as well as real estate entities dependent on financing in the near to medium term - basically, the entire FIRE sector in both European and US markets (that's right, don't believe those who say the US banks have decoupled from Europe).

thumb_Reggie_Middleton_on_Street_Signs_Fire

Now, all of this excerpt above was written BEFORE Tropical Storm Sandy hit the east cost. Now, its a whole difference ball game in terms of combined ratios and operating losses. Exactly how are those operating losses are going to be paid once the truth becomes widespread, re: Germany vs the periphery?

First: See FIRE Burns From Hurricane Sandy - Fear The Insurance Companies, Twice Over - Just Ask the ECB, Greece, Spain & Portugal

Second: Go long magic wands and Harry Potter paraphenalia!!! 

The damage to banks will probably be worse due to the higher level of leverage in European institutions. This is saying a lot since Italy's Generali is truly levered up the ASS! As excerpted from our professional series (subscribers see File Icon Bank Run Liquidity Candidate Forensic Opinion:).. (click here to continue reading)

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At the very beginning of the year I was on CNBC commenting on the horrible time the FIRE sector should be expecting. Well, at year end I see FIRE burning amidst all of this Hurricane damage. First reference my warning on the MSM - Reggie Middleton Sets CNBC on F.I.R.E.!!!

I then followed this up with You Can Rest Assured That The Insurance Industry Is In For Guaranteed Losses! Well, guess what we have in today's headlines?

Insurers Face Tab of up to $20 Billion

Hurricane Sandy may cost the insurance industry up to $20 billion, which would put this week's devastating storm second only to 2005's Hurricane Katrina for insured losses, according to a new damage estimate.  44 min ago

 You see, this is more than just massive property losses for the industry. Remember, how the insurance business model works. Take in premiums, invest them for profits, then take your time paying out any claims. Well, this model only works when you have investment profits and/or underwriting profits. A combination of massive investment losses and underwriting losses, a combined ratio of less than 100 in industry parlance, means...

So, Spain finally gets a bailout, as I pretty much guaranteed in The Economic Bloodstain From Spain's Pain Will Cause European Tears To Rain and The Spain Pain Will Not Wane: Continuing the Contagion Saga. I'd like to draw attention to an excerpt from the afore-linked article...

 we should all see what this means for those insurers on F.I.R.E.?

Untitled_-__euro_insurereUntitled_-__euro_insurere

Subscriber downloads:

icon Insurer Preliminary Observations (498.08 kB 2011-12-08 10:05:24)

icon Insurer Report_122511 - Professional/Institutional edition (975.49 kB 2011-12-27 11:05:59)

icon Insurer Report_122511 -Retail edition (876.11 kB 2011-12-27 11:04:09)

icon Insurance cos. EU exposure 11-2011 (10.72 kB 2011-11-28 16:20:21)

icon Insurance Cos. Operational Stress (11.92 kB 2011-11-29 10:11:51)

Greece Is Trying To Convince Portugal To Make F.I.R.E. Hot!!!

 I doubt that's the case. In the post Greece's Problem Is Shared By Much Of The EU & Can't Be Solved Through Parlor Tricks, via ZeroHedge, it was noted:

This 'Deposits Related to Margin Calls' line item on the ECB's balance sheet will likely now become the most-watched 'indicator' of stress as we note the dramatic acceleration from an average well under EUR200 million to well over EUR17 billion since the LTRO began. The rapid deterioration in collateral asset quality is extremely worrisome (GGBs? European financial sub debt? Papandreou's Kebab Shop unsecured 2nd lien notes?) as it forces the banks who took the collateralized loans to come up with more 'precious' cash or assets (unwind existing profitable trades such as sovereign carry, delever further by selling assets, or subordinate more of the capital structure via pledging more assets - to cover these collateral shortfalls) or pay-down the loan in part. This could very quickly become a self-fulfilling vicious circle - especially given the leverage in both the ECB and the already-insolvent banks that took LTRO loans that now back the main Italian, Spanish, and Portuguese sovereign bond markets.

Of course, it gets worse... What can't be pawned off to the ECB in exchange for harsh margin calls merely days later has been pushed into insurers. Below is a sensitivity analysis of Generali's (a highly leveraged Italian insurer, subscribers see File Icon Exposure of European insurers to PIIGS) sovereign debt holdings.

image004image004

As you can see, Generali is highly leveraged into PIIGS debt, with 400% of its tangible equity exposed. Despite such leveraged exposure, I calculate (off the cuff, not an in depth analysis) that it took a 10% hit to Tangible Equity. Now, that's a lot, but one would assume that it would have been much worse. What saved it? Diversification into Geman bunds, whose yield went negative, thus throwing off a 14% return. Not bad for alleged AAA fixed income. But let's face it, Germany lives in the same roach motel as the rest of the profligate EU, they just rent the penthouse suite! Remember, Germany is not in recession after a rip roaring bull run in its bonds, and I presume the recession should get much deeper since as a net exporter it has to faces its trading partners going broke. Below you see what happens if the bund returns were simply run along the historical trend line (with not extreme bullishness of the last year).

image005image005

Companies such as Generali would instantly lose a third of their tangible equity. This is quite conservative, since the profligate states bonds would probably collapse unless the spreads shrink, which is highly doubtful. Below you see what would happen if bunds were to take a 10% loss.

image006image006

That's right, a 10% loss in bunds translates into a near 50% loss in tangible equity to this insurer, which would realistically be 60% plus as the rest of the EU portfolio will compress in solidarity. Combine this with the fact that insurers operating results are facing historically unprecedented stress (see You Can Rest Assured That The Insurance Industry Is In For Guaranteed Losses!) and it's not hard to imagine marginal insurers seeing equity totally wiped out.

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As the year 2012 comes to an end I would like to remind readers and subscibers alike of the impending deadline posed by the leaderless leadership in the EU. Right after the first Greek default and 3rd bailout, in Beware The Overly Optimistic Greek Speculators As Icarus Comes Crashing Down To Earth! I made it perfectly clear that Greece was actually in worse condition cashflow wise and balance sheet-wise after the default than before. This has put a deadline of roughly 2013-2014 until that nasty stinky brown stuff splatters off the fan blades - to wit:

Despite extensive, self-defeating, harsh and punitive austerity measures that have combined with a lack of true economic stimulus, Greece has (to date) failed to achieve Primary Balance. For the non-economists in the audience, primary balance is the elimination of a primary deficit, yet the absence of a primary surplus, ex. the midpoint between deficit and surplus before taking into consideration interest payments.

Greece_Primary_balanceGreece_Primary_balance

The primary balance looks at the structural issues a country may have.

Government expenditures have outstripped revenues ever since 2007 and have gotten worse nearly every year since, despite 3 bailouts a restructuring, austerity and a default!

Greece_Primary_deficit_copy

Looking at the chart above, it should be obvious that by this time next year Greece would be pretty much shit out of water for there is no way they can make their interest payments AND thier expenditures sans interest, or make their government expenditures alone, or even in two years even make their interest payments assuming they don't even touch their otherexpenditures.
 
By the 2nd quarter of 2010 I clearly and articulately detailed exactly how Greece would default with specific structures in play- What is the Most Likely Scenario in the Greek Debt Fiasco? Restructuring Via Extension of Maturity Dates. Due to a few institutions who were skeptical, I attempted to make it a bit more real - A Comparison of Our Greek Bond Restructuring Analysis to that of Argentina.

Well, Greece defaulted according to plan, despite all of the "people in the know" saying otherwise -  - from government officials to the EC and IMF - Lies, Damn Lies, and Sovereign Truths: Why the Euro is Destined to Collapse! Even after the default, I made clear that this wasn't over for Greece, for the default actually left Greece worse off fundamentally, not better. Go wonder... I know I did, reference the warning from 5 months ago:

This will be exacerbated by a re-default of the Greek debt that was designed to bail out the defaulted Greek debt. Why will this happen? Greece has severe, rigid structural problems that simply cannot (and will not) be solved by throwing indebted liquidity at it. As a matter of fact, the additional debt simply exacerbates the problem - significantly! This was detailed in the post Beware The Overly Optimistic Greek Speculators As Icarus Comes Crashing Down To Earth!

..Subscribers can download my full thoughts on Greece's sustainability post bailout here - debt restructuring_maturity extension blog - March 2012. Professional and institutional subscribers should feel free to email me in order to receive a copy of the Greek restructuring model used to create these charts and come to these conclusions.

  • Even with the elimination of interest payments Greece will spiral downward.
  • Even with the near total absolution of its debt, as in a 90% haircut of the most recent bonds issued (which were swapped for bonds of which investors took an effective 74% haircut), Greece will spiral downward.
  • That is the likely reason why these newest bonds back by EU/IMF bailout economic capital are already trading 70 points below par and rated CCC.
  • These bonds are almost definitely slated for a 90%+ haircut by 2016

Long story short, TPTB have put Greece in a situation where it has to literally choose whether it feeds its people or it pays banks exorbitant interest. I'll let you guess which is actually taking place....

Greek Interest Imposed Poverty

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I have thoroughly warned (since 2009) that Spain will be one of the most catalyzing states suffering the Eurocalypse. Even more interesting, the rating agencies have a very significant (although not very utilitarian) role, see The Embarrassingly Ugly Truth About Spain: The IMF, EC and ALL Major Rating Agencies Are LYING!!!

thumb_Reggie_Middleton_on_Street_Signs_Fire

Looking at today's news, my ruminations take form, but the question of the day is that, unlike with Greece whose bonds have killed banks (see How Greece Killed Its Own Banks! and Dead Bank Deja Vu? How The Sovereigns Killed Their Banks & Why Nobody Realizes They're Dead) until the ECB bought the pain from the municipal muppets in a Pan-European Ponzi-style shell game (see ECB As European Lender Of Last Resort = Institutional Purveyor Of A Pan-European Ponzi Scheme), Spain's asset and credit bubble pop ramifications are much too large too large to simply stuff in an ECB side pocket. So, what happens to those banks that leveraged up and gorged on all of this risky ass, risk free European sovereign debt??? Well, first let's peruse today's media as Bloomberg reports Spain’s Economy Shrinks for Fifth Quarter Amid Bailout Talk

 Spain’s economy contracted for a fifth quarter, adding pressure on Premier Mariano Rajoy to seek more European aid even as the euro area’s fourth-largest economy met a bill-sales target.

Gross domestic product fell 0.4 percent in the three months through September from the previous quarter, matching the contraction of the second quarter, the Bank of Spain said in an estimate in its monthly bulletin released in Madrid today. That compares with a median forecast for a 0.7 percent contraction in a Bloomberg News survey of 10 economists.

Moody's passed on cutting Spain's sovereign rating (to below investment grade) recent and the general sigh of relief has been short-lived.  Moody's cut Catalonia's rating (by two notches to Ba3) and four other regions.  The rating agency cited two main factors.  First is the deterioration in the liquidity situation of the regions, as evidenced by the low levels of cash reserves.  Second, it cited the heavy reliance on short-term credit lines.    
Three of the regions that were downgraded (Catalonia, Murcia and Andalucia) face large redemption before year end.  Madrid had established a fund to help the regions secure financing of 18 bln euros.  Eight of the 17 regions have requested funds, including 4 of the five that were downgraded by Moody's.  These requests amount to a little more than 17 bln euros, practically exhausting the fund.   
Separately, Spain's finance ministry acknowledged that is year's deficit, as in recent years, will overshoot the government's target.  Indeed, this year's new projection of 7.3% overshoots not only the relaxed 6.3% shortfall, but even the 6.8% that Rajoy unilaterally suggested coming out of the EU meeting in which the leaders endorsed the fiscal pact.  The 10.5 bln social security (not just pensions, but unemployment compensation and other transfer payments) deficit is being blamed, which itself is partly a function of the austerity face of economic weakness.   

 You can't say I didn't warn 'ya...

Well, the most stringent warning is also probably the most profitable if timed correctly, and that was the warning on the FIRE sector on CNBC (Reggie Middleton Sets CNBC on F.I.R.E.!!! and First I set CNBC on F.I.R.E., Now It Appears I've Set...):

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For more on this, see The F.I.R.E. Is Set To Blaze! Focus On Banks, part 1. A lot of people, even professionals, truly believed that the FIRE malaise would not be European in nature. Whaattt????!!! As expected, this European Insurer Needs Insurance As $6B Of Its Bonds Are Instantly Subordinated Due To "Spain's Pain". Insurers are very heavy investors in European sovereign debt AND the debt of financial institutions. But hey, weren't the European financial institutions getting killed by choking on Sovereign debt (reference Dead Bank Deja Vu? How The Sovereigns Killed Their Banks & Why Nobody Realizes They're Dead)? So, you know what's up next right?

European Bank Run Watch: Spaniard Edition

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CNBC reports Greece Austerity Strike Will Hurt GDP Further even as Cyprus Expects Bailout as S&P Cuts Ratings to Junk:

Cyprus said on Wednesday it expected talks to start with lenders on badly needed aid next week, as ratings agency Standard & Poor's pushed it deeper into junk territory, implying domestic political expediency lay behind a delay in clinching a deal. One of the smallest nations in the euro zone, Cyprus sought European Union (EU) and International Monetary Fund (IMF) aid in June after its two largest banks suffered huge losses due to a write-down of Greek debt.

Well, our Contagion Model showed clear paths of the knock on effects of Greek infection, and we haven't even gotten started with the economic pathogen party yet!

Of course, where there is a loser, there's always a winner as well - sometimes hidden beneath all of their spoils... On Friday, 04 May 2012 I penned The BoomBustBlog Pan-European Distressed Asset Acquisition Initiative, which clearly outlined the investment opportunities forthcoming in the tiny nation state known as Cyprus, as excerpted:

Asset sale by sovereigns is can be seen in the sale of stakes in government owned infrastructure assets and corporations. However, the approach adopted to dispose of these assets is to make partial sales in tranches in order to participate in any benefits of valuation recovery.

Professional and institutional subscribers should download the full version of this document (File Icon The BoomBustBlog Pan-European Distressed Asset Acquisition Initiative) which outlines investment opportunities in the following nation/banks: UK, Portugal, Italy, Cyprus, Greece, Ireland and Spain.  Our initiative runs the gamut from whole companies and equities, to real estate, infrastructure assets, rare earth and hard tangible assets to IP.

Dispositions by Europeans banks have consisted mostly of foreign assets outside of Europe. Most of these assets had the potential for high returns but are being offered at prices reflecting the perception that future investment performance would be robust. This is why there is so much interest in the private equity and asset management space in scanning for strong deals among those assets. However, the competition among these entities to buy quality assets at reasonable valuations has created a micro bubble of sorts, the type that make profitable vulture investing a very difficult proposition.

Over the next week I will lead readers and paid subscribers through a journey of distressed assets being disgorged by banks and sovereigns that are poised to give those who are perceptive enough out-sized returns. I find this research and foresight to be invaluable, and I believe many institutions, asset managers and UHNWers will as well. Of course, the potential winners may be those who aren't among the usual suspects, and I feel TPTB amongst the EU clan may feel downright intimidated.

Yes, Spain will contribute to this vulture-fest, as will those still hooked into Greece, et. al.

Stay tuned, and follow me!

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First, a quick historical synopsis of where I'm coming from. If you have followed me regularly, then feel free to jump down to the next bold heading to get started - all others please read on...

I have been warning of the collapse of the European banking system, the Euro as we know it, and periphery states of the EU for going on three years now. What many thought was tomfoolery back then, is thought of as prescient now - reference the Pan-European Sovereign Debt Crisis series which started in late 2009. I then went on to explicitly query Is Another Banking Crisis Inevitable?, of which I believe most of the realistic among us already know the answer.

Walking through European bank collapse is not enough, even through we did it in detail through BoomBustBlog, reference The Anatomy of a Serial European Banking Collapse, a nearly guaranteed scenario. If one were to even come close to marking the EU banks' books to reality, market prices, or anything in between, the Lehman situation would look tame in comparison!

As excerpted from the subscriber document (click here to subscribe): The Inevitability of Another Bank Crisis

 

You see, you can avoid reality for but so long, primarily because reality is... well, reality! What happens when reality hits bank asset prices and liability values... 

Now, since we have finished that quick traipse through recent history as a summary of events and opinion, let's move on to the topic at hand. Last week, ZeroHedge posted a scathing article on the IMF's "Global Financial Stability Report", as excerpted:

...especially as pertains to Europe's insolvent banking system. The most notable finding of said report is the admission that the IMF was only kidding when it said six months ago, in April of this year, that the worst case outlook now has European banks deleveraging to the tune of $3.8 trillion through the end of 2013, or over the next 14 months: now this number is 18% higher, or a gargantuan $4.5 trillion (12% of bank assets). This is how much debt Eurobanks will need to shed in a "weak policies" case in which Europe continues to delay implementing fiscal reform, aka austerity, as per Figure 2.14. Even the baseline (and this being the IMF it means it has zero chance of happening) scenario is not much better, at a revised $2.8 (7.3%) trillion in deleveraging.

Although it seems as if Tyler is being a smart ass, he couldn't be farther from the truth. Reference my piece Lies, Damn Lies, and Sovereign Truths: Why the Euro is Destined to Collapse! concerning the accuracy of the IMF's baseline scenarios...

image005.png

And back to the ZH post:

....Breakdown of IMF deleveraging forecasts for the three scenarios, of which the realistic one is highlighted:

    • Under weak policies, the withdrawal of foreign investors accelerates to twice the pace seen since 2009. Periphery spreads widen by about one standard deviation above the baseline.

 

The biggest loser here, as in every other category: Germany, which will end up seeing €2 trillion in TARGET2 claims which in turn will never be satisfied as the system merely accelerates its collapse into a debt supernova.

 EXACTLY!!! BINGO!!! Now, we are all starting to come to the BoomBustBlog way of thinking, aka, REALITY! In the beginning of this year, I penned The Biggest Threat To The 2012 Economy Is??? Not What Wall Street Is Telling You... In short, this piece made clear that Germany poses the biggest threat to global harmony for 2012. The widely accepted belief that Germany is economically bullet-proof and somehow immune to malaise effecting the periphery as long as it does not attend the bailout party is fallacious, indeed. Please click the afore-referenced link for the full story on Germany and why some should consider the "Bund short play". Back to Tyler...

The big picture, of course, is that even the IMF now concedes Europe is in a closed loop Catch 22: unless European countries manage to restore "foreign" confidence which in turn would mean putting their fiscal houses in order, something which has proven absolutely impossible in Europe absent such one-time gimmicks as LTROs and otherwise hollow confidence boosters as ECB warnings to not fight the ECB (which work until they are tested, but first need to be activated, ahem Mariano Rajoy), the banks will be forced to delever even more, which would mean the ECB would have to "onboard" even more of their debt as nobody else will, which means even more foreign creditor flight, which means greater deposit outflows, which means more ECB intervention, until finally, the ECB is the only player in town...

Ah, yes! The Truth gets outed... I went through this in EXPLICT detail throughout 2011-12. Reference the following:

  1. On Your Mark, Get Set, (Bank) Run!
  2. ECB As European Lender Of Last Resort = Institutional Purveryor Of A Pan-European Ponzi Scheme
  3. The Anatomy Of A European Bank Run: Look At The Banking Situation BEFORE The Run Occurs!
  4. The Fuel Behind Institutional “Runs on the Bank" Burns Through Europe, Lehman-Style
  5. European Bank Run Watch: Swiss Edition - BoomBustBlog
  6. European Bank Run Watch: Spaniard Edition - BoomBustBlog
  7. Bank Run! Italiano Style? - BoomBustBlog
  8. French Bank Run - BoomBustBlog

Back to that Tyler piece:

...a process which can be visualized (in progress) in the following capital flow image, especially Figure 1.7:

 At the point when the ECB is the sole owner of all European financial debt (and sovereign debt via repo), the endgame for the fiat system will finally be here, as the only thing more dangerous than the ECB will be all other central banks which will have no choice but to follow suit and monetize everything in the global race to debase currencies, and monetize ever more budget deficits in a world in which the rich increasingly preserve their wealth, and refuse to pay taxes (converting financial assets into hard ones), having finally grasped the endgame.

I couldn't have said it better myself... Okay, maybe I could have, as I rearticulate - ECB As European Lender Of Last Resort = Institutional Purveryor Of A Pan-European Ponzi Scheme

Tyler ends the piece in stylish fashion: "As for the immediate task at hand: how European banks will deleverage to the tune of $4.5 trillion over the next 14 months, Europe has our blessings." Oh, they may need a little more than your blessings, and they may even get a little more than your blessings as well, to their chagrin. My next post will wrinkle some feathers - The Economic Face Of Europe Will Look A Lot Browner If The UAE Plays Its Cards Right! Stay tuned...

 

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