Tuesday, 11 May 2010 02:42

As I Warned Yesterday, It Appears the Market Is Calling the Europeans Bluff - It's Now Put Up Or Get Put Down

Yesterday I commented on the folly of promising big money to throw at a myriad variety of highly indebted nation without a central authority to enforce the structural change needed to actually cure the problems that created the need for the monies in the first place. See  The EU Has Set Up An Oppurtunistic Entry Point for Shorts Instead of Expressly Offering a Solution to the Pan-European Sovereign Debt Crisis! and What We Know About the Pan European Bailout Thus Far. The primary flaw, by far, that I perceive in this most grand of grand bailout schemes is that it is just that - a bailout, not a solution. Methinks the market is about to call the EU on their bluff pretty much along the same lines that I espoused above. For those subscribers who follow my belief that the ECB and EU leaders are making one of the largest policy blunders of modern times, this may be an opportunity to set up a short position that makes the Lehman Brothers' debacle look like a day rally. All subscribers are welcome to download our latest File Icon Euro Bank Sovereign Debt Exposure Preview. A more verbose summary will be released for pro and institutional subscribers shortly. Reference the following articles in this early morning edition of Bloomberg:

Euro Erases Gains as Optimism Cools; Stocks, Commodities Fall on China CPI

May 11 (Bloomberg) -- The euro lost all of yesterday’s gains on concern the almost $1 trillion lending plan to bail out indebted nations in Europe will fail to avert a slowdown in the region. Asian stocks, copper and U.S. index futures fell after China’s inflation rate accelerated to an 18-month high.

The euro, after yesterday strengthening as much as 2.7 percent against the dollar, traded 0.3 percent weaker than last week’s closing level as of 1:45 p.m. in Tokyo. The MSCI Asia Pacific Index dropped 0.7 percent to 119.29 as declines in mining companies and Japan’s banks countered positive earnings news from corporations including Sony Corp. Standard & Poor’s 500 Index futures lost 0.6 percent, following the biggest jump in U.S. stocks since March 2009.

“Markets realized quickly that this crisis won’t be cured by adding liquidity, no matter how big it is,” said Toshihiko Sakai, head of trading for currencies and financial products at Mitsubishi UFJ Trust & Banking Corp. in Tokyo. “The structural problems of the euro zone will persist. I’m not surprised at all the euro is losing strength again.”

Greece may have its credit rating lowered to junk within the next month, Moody’s Investors Service said yesterday, citing the country’s “dismal” economic prospects. The European Central Bank’s decision to buy government bonds, a move designed to help reduce financing costs for countries including Greece, poses “significant stability risks,” council member Axel Weber said.

China Inflation Accelerates as Loans Surge, Property Prices Rise by Record - I led my Pan-European Debt Crisis series with a piece on China macro for it is quite possible that a China bubble burst may be the straw that breaks the European camels back. See Can China Control the “Side-Effects” of its Stimulus-Led Growth? Let’s Look at the Facts.

May 11 (Bloomberg) -- China’s inflation accelerated, bank lending exceeded estimates and property prices jumped by a record, increasing pressure on the government to raise interest rates and let the currency appreciate.

Consumer prices rose 2.8 percent in April from a year earlier, the fastest pace in 18 months, and property prices jumped 12.8 percent, the statistics bureau said in statements today. New lending of 774 billion yuan ($113 billion), announced by the central bank, was more than any of 24 economists forecast.

Asian stocks pared gains on concern that Chinese officials will move to cool the fastest-growing major economy, while yuan forwards rose. China’s top priority should be preventing excessive increases in asset prices and liquidity after Europe’s almost $1 trillion loan package reduced the risk of another global slump, central bank adviser Li Daokui said yesterday.

“Price pressures have been building throughout the economy, strengthening the case for higher interest rates and a stronger yuan,” said Brian Jackson, a Hong Kong-based strategist at Royal Bank of Canada. “China is at risk of overheating, with spot fires breaking out in various parts of the economy.”

... The MSCI Asia Pacific Index reversed a gain of as much as 0.7 percent after the China reports, to trade 0.5 percent lower at 119.55 as of 12:03 p.m. Hong Kong time. Non-deliverable yuan forwards rose 0.2 percent, indicating that the government will scrap a peg to the dollar and let the currency gain 2.4 percent in the next year. The increase in consumer prices compared with 2.4 percent in March and the 2.7 percent median estimate of 30 economists surveyed by Bloomberg News. Producer prices jumped 6.8 percent, also topping estimates, today’s release from the statistics bureau showed. The jump in property prices in 70 cities was the biggest since data began in 2005, defying a government crackdown on speculation that intensified last month.

Bank Swaps, Libor Spreads Show Doubts Over Europe Bailout: Credit Markets

May 11 (Bloomberg) -- Money markets and the cost of protecting bank bonds from losses show investors are concerned the almost $1 trillion rescue plan announced by European leaders may not be enough to contain the region’s sovereign debt crisis. The Markit iTraxx Financial Index of credit-default swaps on 20 European banks was last at 130.5 basis points compared to 100.25 basis points for the Markit iTraxx Europe Index of 125 investment-grade companies, a benchmark it traded an average 10 basis points below for three years, according to CMA DataVision. The three-month Libor-OIS spread, which widens as banks’ willingness to lend decreases, advanced to 19.17 basis points from 18.92 yesterday and 6 on March 15.

The loan package for debt-laden nations including Greece is part of an attempt to stem a decline in the euro, which fell to a 14-month low last week, and stave off a sovereign default that would threaten recovery from the worst global recession since the 1930s. Banks’ potential losses stemming from the crisis are under scrutiny by investors concerned financial institutions are owed too much by Europe’s most-indebted countries. [Look above for our latest take on this. Shorting into European bank strength is the Reggie Contrarian Trade of the Day!]

“Sovereign risk hasn’t gone away in the slightest,” said Jim Reid, head of fundamental strategy in London for Deutsche Bank AG, Germany’s biggest bank. “What this package has done is massively reduced the tail risk in European markets without necessarily changing the medium- to long-term dynamics of financial markets.”

Investor ‘Euphoria’ ... Elsewhere in credit markets, the extra yield investors demand to own corporate debt instead of government securities fell 8 basis points to 169 basis points, or 1.69 percentage point, after soaring 28 basis points last week, according to Bank of America Merrill Lynch’s Global Broad Market Corporate Index. It peaked at 511 basis points on March 30, 2009, and dropped to as low as 142 on April 21. Average yields fell 0.5 basis point to 4 percent.

The cost of protecting Asia-Pacific bonds from default rose today as investor “euphoria” at the European measures abated, according to Fumihito Gotoh, head of Japan credit research for UBS AG in Tokyo.

The Markit iTraxx Asia index of credit-default swaps on 50 investment-grade borrowers outside Japan climbed 3 basis points to 108 as of 11:27 a.m. in Singapore, Royal Bank of Scotland Group Plc prices show. It declined 28 basis points yesterday, according to CMA, after European Union finance chiefs agreed to offer as much as 750 billion euros ($956 billion), including International Monetary Fund backing, to countries facing deep budget deficits and flagging investor confidence.

Europe Sovereigns... The European Central Bank also said it will buy government and private debt. Credit swaps on Greece tumbled 329.5 basis points to 586, the biggest decline since March 2005, according to CMA. The swaps are still up from 364 on April 12. Contracts on Portugal, which were 152 basis points four weeks ago, dropped 170 to 255. Spain, which declined 65.5 to 173 yesterday, is 48 basis points higher than April 12. Italy, which fell 68.5 to 157 yesterday, was 124 basis points two weeks ago. “Maybe Greece won’t default in the near term or even the medium term, but the debt hasn’t gone away,” said John Anderson, head of credit at Gartmore Investments in London. “Budget deficits still need to be cut for the debt to be paid down.” Credit swaps pay the buyer face value if a borrower fails to meet its obligations, and prices decline as perceptions of creditworthiness improve. A basis point equals $1,000 annually on a contract protecting $10 million of debt.

Libor Rates... The three-month London interbank offered rate in dollars, the rate banks pay for loans, fell to 42.1 basis points from 42.8 on May 7. The rate climbed 8.2 basis points last week, the biggest increase since October 2008, a month after Lehman Brothers Holdings Inc.’s bankruptcy filing.

The difference between it and the overnight indexed swap rate, the so-called Libor-OIS spread, climbed yesterday even after the rescue announcement. Predictions for the spread in the months ahead, based on contracts trading in the forwards market, or so-called FRA/OIS spreads, are for 26.5 basis points by June, down from 38 on May 7 and still almost twice the 14.5 basis points from two weeks ago, according to UBS AG data.

“People will remain somewhat on edge,” said David Watts, a London-based strategist at CreditSights Inc. “There are still a lot of hurdles to overcome before we get settled back to where we were a month and a half to two months ago.”

The European bailout may unravel if countries fail to meet austerity targets under terms of the loan package, Watts wrote with strategist Louise Purtle in a note to clients yesterday..

“You now have moral hazard at a sovereign level and investors should still be wary of the whole situation,” said Gartmore’s Anderson. “There are record deficits in just about every country in Western Europe and something ultimately needs to be done about them.”

Euro Recovery Proves Short-Lived on Interest Rates, ECB's Bond-Buying Plan

May 11 (Bloomberg) -- Europe’s $1 trillion plan to rescue the region’s debt-laden governments may fail to reverse the euro’s worst start to a year since 2000 amid bets the central bank will keep interest rates at a record low for longer.

The currency surged by as much as 2.7 percent against the dollar yesterday before paring that gain, and closing up 0.3 percent to $1.2787 in New York. It will probably decline toward $1.20, according to UBS AG and Barclays Plc, ranked by Euromoney Institutional Investor Plc as the world’s second- and third- largest currency traders. Schneider Foreign Exchange, the third- most-accurate forecaster of the euro against the dollar in the first quarter, also cut its prediction.

Traders are betting the currency will resume its decline as Europe’s economic recovery trails behind that in the U.S., prompting the European Central Bank to keep its main refinancing rate at 1 percent this year while the Federal Reserve starts raising rates. The ECB’s decision to buy bonds may prompt investors to question its independence and demand “a higher risk or credibility premium,” Kenneth Broux, a senior market economist at Lloyds Banking Group Plc in London, wrote in a client note.

“The cost of securing the future of the euro is proving to be extremely high, as can be seen by the size of the package, and there are a lot of long-term negative implications attached,” said Ian Stannard, a senior currency strategist at BNP Paribas in London. While the rescue package “may provide some very near-term support for the euro” it “doesn’t have an impact on the longer-term outlook,” he said.

The euro fell 0.5 percent to $1.2722 as of 6:36 a.m. in London, from yesterday in New York, and dropped 1.1 percent to trade at 117.99 yen. Europe’s common currency is “endangered,” John Taylor, who helps oversee $7.5 billion as chairman of New York-based FX Concepts Inc., manager of the world’s largest currency hedge fund, said in a Bloomberg Television interview. “The problem has been found out. The king has no clothes.”

The 16-nation euro slumped 11 percent since Jan. 1, its worst start since the year after its introduction, on concern the debt crisis in countries from Greece to Portugal will slow the region’s economic recovery and prompt the ECB to buy assets while the Fed is exiting its own emergency measures.

‘Temporary Rally’... The currency surged yesterday after governments pledged to make 440 billion euros ($562 billion) available as part of the package, with 60 billion euros more from the European Union’s budget and as much as 250 billion euros from the International Monetary Fund. It jumped 4.4 percent versus the yen in the two days through yesterday, the biggest advance since November 2008. The gains won’t be sustained, said Mansoor Mohi-uddin, Singapore-based global head of currency strategy at UBS, forecasting a “temporary rally” toward $1.35 before a drop. “The euro will definitely hit what we call its long-term fair value at $1.20 and it may easily overshoot that if difficulties in Europe persist,” he said. “The policy mix in Europe is becoming very unfavorable to the currency.”

The Pan-European Sovereign Debt Crisis

The Asset Securitization Crisis of 2007, 2008 and 2009 led to the demise of several global banks and institutions. Central bank induced risky asset bubbles gave rise to, what was popularly considered and reported as through the popular media, a rapid recovery. The reality was that the insolvencies that marked the crisis was passed on, in part, to the sovereign nations that sponsored the Crisis, and as the chickens came home to roost the Asset Securitization Crisis has now blown into a full Sovereign debt crisis.

The Pan-European Sovereign Debt Crisis, to date (free):

  1. The Coming Pan-European Sovereign Debt Crisis – introduces the crisis and identified it as a pan-European problem, not a

    Latest Pan-European Sovereign Risk Subscription Research – The Good Stuff!!!

    Actionable Intelligence Note For All Paying Subscribers on European Bank Research


    File Icon A Review of the Spanish Banks from a Sovereign Risk Perspective – retail.pdf

    File Icon A Review of the Spanish Banks from a Sovereign Risk Perspective – professional

    File Icon Ireland public finances projections

    File Icon Spain public finances projections_033010

    File Icon UK Public Finances March 2010

    File Icon Italy public finances projection

    File Icon Greece Public Finances Projections

    File Icon Banks exposed to Central and Eastern Europe

    File Icon Greek Banking Fundamental Tear Sheet

    File Icon Italian Banking Macro-Fundamental Discussion Note
    File Icon Spanish Banking Macro Discussion Note

    localized one.

  2. What Country is Next in the Coming Pan-European Sovereign Debt Crisis? – illustrates the potential for the domino effect

  3. The Pan-European Sovereign Debt Crisis: If I Were to Short Any Country, What Country Would That Be.. – attempts to illustrate the highly interdependent weaknesses in Europe’s sovereign nations can effect even the perceived “stronger” nations.

  4. The Coming Pan-European Soverign Debt Crisis, Pt 4: The Spread to Western European Countries

  5. The Depression is Already Here for Some Members of Europe, and It Just Might Be Contagious!

  6. The Beginning of the Endgame is Coming???

  7. I Think It’s Confirmed, Greece Will Be the First Domino to Fall

  8. Smoking Swap Guns Are Beginning to Litter EuroLand, Sovereign Debt Buyer Beware!

  9. Financial Contagion vs. Economic Contagion: Does the Market Underestimate the Effects of the Latter?

  10. Greek Crisis Is Over, Region Safe”, Prodi Says – I say Liar, Liar, Pants on Fire!

  11. Germany Finally Comes Out and Says, “We’re Not Touching Greece” – Well, Sort of…

  12. The Greece and the Greek Banks Get the Word “First” Etched on the Side of Their Domino

  13. As I Warned Earlier, Latvian Government Collapses Exacerbating Financial Crisis

  14. Once You Catch a Few EU Countries “Stretching the Truth”, Why Should You Trust the Rest?

  15. Lies, Damn Lies, and Sovereign Truths: Why the Euro is Destined to Collapse!

  16. Ovebanked, Underfunded, and Overly Optimistic: The New Face of Sovereign Europe

  17. Moody’s Follows Suit Behind Our Analysis and Downgrades 4 Greek Banks

  18. The EU Has Rescued Greece From the Bond Vigilantes,,, April Fools!!!

  19. How BoomBustBlog Research Intersects with That of the IMF: Greece in the Spotlight

  20. Grecian News and its Relevance to My Analysis

  21. A Summary and Related Thoughts on the IMF’s “Strategies for Fiscal Consolidation in the Post-Crisis

  22. Euro-Gossip Debunked, Courtesy of Trichet and the IMF!

  23. Greek Soap Opera Update: Back to the Bailout That Was Never Needed?

  24. Many Institutions Believe Ireland To Be A Model of Austerity Implementation But the Facts Beg to Differ!

  25. As I Explicitly Forwarned, Greece Is Well On Its Way To Default, and Previously Published Numbers Were Waaaayyy Too Optimistic!

  26. LTTP (Late to the Party), Euro Style: Goldman Recommends Betting On Contagion Risk In Portuguese, Spanish And Italian Banks 3 Months After BoomBustBlog

  27. Beware of the Potential Irish Ponzi Scheme!The Daisy Chain Effect That I Anticipated Appears To Have Commenced!
  28. How Greece Killed Its Own Banks!Introducing The BoomBustBlog Sovereign Contagion Model: Thus far, it has been right on the money for 5 months straight!
  29. With Europe’s First Real Test of Contagion Quarrantine Failing, BoomBustBloggers Should Doubt the Existence of a Vaccination


Last modified on Wednesday, 12 May 2010 07:47

5 comments

  • Comment Link Reggie Middleton Thursday, 20 May 2010 07:13 posted by Reggie Middleton

    May 20 (Bloomberg) -- Company borrowing costs jumped the most in two weeks after Germany’s short-selling ban, wiping out declines triggered by Europe’s $1 trillion aid package that was meant to halt contagion from the sovereign debt crisis.

    The yield premium investors demand to hold investment-grade bonds rather than similar-maturity government debt rose 5 basis points to 177, the highest this year, and equal to the level before the emergency loan was agreed May 10, Bank of America Merrill Lynch index data show. Spreads on high-yield notes widened 16 basis points to 675, the most since March 2.

    “What investors need most of all is security and predictability, but they are getting ever less,” said Ciaran O’Hagan, a strategist at Societe Generale SA in Paris. “Instead they are vilified as sharks, wolves or locusts, while governments rack up ever higher debt and contingent liabilities.”

    Germany’s unilateral ban on so-called naked short-selling of some bank stock and the outlawing of speculation on government bonds using credit-default swaps has shaken investor confidence. German two-year notes declined today on concern that the lack of a united platform from European lawmakers will prompt investors to move assets to other markets.
    http://www.bloomberg.com/apps/news?pid=20601087&sid=aW_y2eEA5oRI&pos=2

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  • Comment Link Liz Goings Tuesday, 11 May 2010 13:55 posted by Liz Goings

    WTF is right! This cannot continue. My prediction: when the Oil hits the keys or even touches my beloved Bahamas - hell to pay - day of reckoning for us all.

    Integrity must be restored period. In ALL things. Not just financial. Balancing act of the Invisible Hand. It is always there.

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  • Comment Link Reggie Middleton Tuesday, 11 May 2010 12:25 posted by Reggie Middleton

    I believe the fundamental answer to that lies in the Spanish bank subscription material I release a coupe of months ago. STD has several skeletons in its closet. If, or more likely, when, they are forced to mark their portfolio to market, there will probably be reckoning.

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  • Comment Link John Arbuthnot Fisher Tuesday, 11 May 2010 12:16 posted by John Arbuthnot Fisher

    I'm convinced that the equity markets must follow suit in calling the Europeans' bluff in the near future. EURUSD has completely wiped out yesterday's gains, and the all the factors described above point to an extremely short half life for the Eurobailout. However, individual concerns like STD are still holding on to net gains of 10-20% from their prices at the close of last week. Looking back to the artificial short squeeze induced in FNM (just as an example) in July 2008, there was a six day rally, after which downward pressure set in and in less than two months' trading the market had thoroughly destroyed FNM. The forces that took STD from 16 to 9 are still waiting in the wings - but for how long can they possibly subside? When does the eventual short become more compelling than the current long?

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  • Comment Link Reggie Middleton Tuesday, 11 May 2010 08:41 posted by Reggie Middleton

    A commenter on another site asked me, "what if the EU leaders did nothing? What else could they have done?" My reply was:

    They did have a choice. They could have come clean about the true state of their finances, elected a central fiscal policy head, then put the money to work. That way, at least the money would have had some credibility in the markets. I, for one, am quite comfortable shorting on top of this bailout with the proper risk managment precautions in place. This does nothing, and I mean nothing to solve the structural issues which brought us here in the first place. As a matter of fact, it actually deepens them since nearly all of the countries backing this trillion dollar set of loans and guarantees need loans and guarantees themseves.

    Just imagine a bunch of highly indebted guys who just got a paycut as their expenses rose get together to create a loan package to give to themselves so they can pay their bills. The only caveat being they have to borrow money from you to create the loan package to fund their bill paying to create a money pool to fund the bailout package that they just came up with so they can create the extra debt needed to fund their bill payments!

    WTF!!!!

    Exactly!

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