Archive - Jun 14, 2012

With Greece preparing to go to the polls this weekend for the second time in a little over a month, BAML's credit strategy group addresses three potential outcomes of the election on a number of asset classes. While they do have concerns about all of the possible post-election scenarios they do not necessarily lead to an exit from the eurozone, at least not in the very short term, and some of them could even lead to an initial market rally that could temporarily strengthen the euro. Their analysis focuses on the near-term (four-week) market implications and assumes that neither Spain nor Italy will have a sovereign crisis during this time frame, though those concerns will likely persist. The three scenarios are: Base case (high probability): election result allows Greece to form a pro-EU government; limited European policy response; Bull case (low probability): election result means Greece does not form a pro-EU government; substantial ECB & European policy response; and Bear case (low to medium probability): election result means Greece does not form a pro-EU government; limited ECB/ European policy response. The one-month asset price response for rates, credit, equities, FX & commodities are detailed below.

There are five problems that need to be resolved within the European crisis and Credit Suisse provides a scorecard for the progress towards these 'risk factors'. The key issues are: growth, peripheral current account balances, solvency of the insolvent, ring-fencing the insolvent, and mutualization of government debt; but what is more worrisome is that while they have raised the average score to 2.0 out of 5 (from 0.6 out of 5 in Nov' 2011), it has not budged now in four months. The lack of growth, fiscal tightening, continuing insolvency concerns and excess leverage in the private sector, and de minimus deleveraging in Spain, Greece, Portugal, and Ireland leaves the vicious circle of progress on the European scorecard much harder from here.

News & headlines from the day

While we await the Moody's downgrade of the Spanish banking system, which we can only attribute to a lack of outsourced Indian talent, since three banks are now rated higher than the sovereign, Moody's decided to give a little present to our Dutch readers by downgrading 5 of their biggest banks: Rabobank Nederland, (2 notches to A2) for ING Bank N.V., (2 notches to A2) for ABN AMRO Bank N.V. (2 notches to A2), and for LeasePlan Corporation N.V. (2 notches to Baa2). The long-term debt and deposit ratings for SNS Bank N.V. were downgraded by one notch to Baa2. And yes, this means that the US banks (looking at your Margin Stanley) are likely next.

With Greece taxing nearly 90% of the price on a pack of cigarettes, perhaps a far more reliable indicator of sovereign health (ironically) than rating agencies is just how much in sin tax a given country withholds. If that is the case, France really should be worried. Also: don't be surprised if the next sauna you go to has a Starbucks outlet.

Lower growth expectations and higher risk premia on peripheral European assets have weighed heavily on the EUR since the sovereign crisis began in late 2009. But, as Goldman's FX anti-guru Thomas Stolper notes, we have not seen evidence of a net capital flight crisis out of the Euro area that would have led to disruptive EUR depreciation (yet). Much of the reasoning for the relative stability is the Target 2 system and the high degree of capital mobility in European capital markets which have enabled the rise in risk aversion to be expressed by internal flows (as well as repatriation). With this weekend's election (and retail FX brokers starting to panic), it is clear that the interruption of these internal channels may well lead to a disorderly capital flight and a full-fledged crisis in flows. Stolper outlines four potential catalysts to trigger this chaos (which is not his base-case 'muddle-through' scenario) as we already noted the huge divergence between implied vols and realized vols indicate the market is starting to price in more extreme scenarios and safe-havens (swissy) are bid.

Treaty Threatens Global Government … Run by Giant Corporations

Greece, Spain, Portugal, Italy and others besides have fallen into the trap of bribing their electorates with promises that become ever more unsustainable. In each of these states, expectations have been created that cannot be met and that cannot now be undone. This is surely a recipe for social unrest. These will not be the only countries to succumb to failure. The national debt, the unaffordable long-term cost of social security, health care and a myriad other entitlements and the mounting evidence of the insolvent state point to the same outcome for the UK and the US. Failure is ensured; the more pressing question is, what happens next?

In browsing the last seven months of video commentary that Charles Biderman, of TrimTabs, has produced, he is clear on one thing, "nothing has changed". With an 'admittedly rigged' stock market now at the behest of global central banks and the slow-motion train-wreck in Europe seemingly approaching the end of its can-kicking-road, Biderman is frustrated by the inane financial media's perpetual belief that we are 'a grand plan' away from a return to the way the world was before the crisis began - "We are not!" Wages and salaries in the US continue to stagnate with a $100bn per month deficit as he is incredulous at the belief that we can go on printing $1.3 trillion to produce $250 billion in spending each year. The US economy will double-dip when the Fed's attempt at rigging the stock market and economy is no longer perceived as viable and as the paisley-wearing pontificater expects both inflation (inevitable with CB printing) and deflation (big banks, European and EM equities thanks to the interventionist policies of the global central banks), he suggests gold as a core holding.

"What TPTB do not appreciate are the lessons we are all learning from Greece.  We must learn many more lessons though.  We must admit to ourselves that there are truly evil geniuses out there, and in most cases these characters have taken control of the power structure (corporations, politics and factions of the military in most of the nations we reside in).  The necessary action is not for good people to bury their heads in the sand and pretend that such people do not exist.  We must get inside their minds.  We must acknowledge and accept their presence as well as their power and then work tirelessly to relieve them of it.  As Irish statesmen, author and philosopher Edmund Burke so eloquently stated: “All that’s necessary for the forces of evil to win in the world is for enough good men to do nothing.” Let’s just do it already."

Epic. Stocks clambered back up to the 1315 (S&P 500 e-mini Sept 2012 contract) level which has been a critical VWAP level for a few days now amid what was a mildly slow day (though IG credit outperformed from its recent deterioration). Then the rumors started.  Risk assets jolted in a very systemic manner (all highly correlated) as ES popped above last Friday's highs (unable to get close to Monday's open we do note), then as the realization that a pre-emptive warning of 'some' action in the case of 'some' event was simply the status quo anyway and we gave the entire 14 pt ramp back. Then we bounced once again as BoE made some noise on further stimulus if things go pear-shaped and we bounced again (though this time only about 8pts and on very small average trade size we note) as we headed into the close right around last Friday's highs. With OPEX tomorrow, this vol could not be more stop-inducing and painful for many as the Dow has now been -150, +150, -80, and +160 pts this week and decent volume today although average trade size remains limited (on the lack of conviction we pre-suppose). Gold and less so Silver bounced off their earlier spike-down moves and WTI rallied like a champ today (resyncing with Silver just in the green for the week). Gold is up 2% on the week (but was far less impressed with the chatter today than stocks were) as in the meantime the USD dropped and ended -0.75% on the week (and AUD is now 1% stronger). Treasuries whipsawed around but only retraced around a third of their rally from yesterday's morning session as 7Y and 10Y underperformed (+5bps or so). Pre-OPEX VIX is always a mess but we dropped over 2.5 vols into the close to end under 22% (but above Friday's close). Risk assets in general moved together and stayed in sync today during the final hour's carnival with stocks perhaps a little rich by the close.

For all the news out of Spain: tumbling sovereign bonds, bailed out banking sector, there really is just one driver of everything: the same one many have been warning about for years: the artificially inflated valuation of the Spanish housing sector. Because the only reason why banks are suddenly finding that their assets are worth much less than previously expected, is because it is now impossible for local banks to keep the real-estate "assets" on their books at marks-to-model (read par) as the bulk of them have long since become impaired, delinquent or outright defaulted.... Which is the worst news for holders of Spanish bonds, now that the entire banking sector is effectively pari passu with the sovereign debt courtesy of priming ESM debt: recall that every incremental dollar, or in this case, euro, of bank capital deficiency will be one more priming bailout euro behind. Effectively there is now an inverse relationship between the Spanish housing sector and the country's sovereign bonds. And for those who are still naively are clutching to Spanish bonds, even as they tumble to all time lows (that's the local law, as opposed to the legal arbitrage trade we have been promoting and which today is making even more money), we have some bad news: that perpetual of optimists, S&P, just said that the Spanish housing sector has, wait for it, another 25% to drop!

This means a comparable drop in store for Spanish bonds and all the related securities in Europe, which courtesy of the bailout are all now daisy-chained.

Update 1: and here comes the revision:

• G20 SOURCES SAY CENTRAL BANKS PREPARING FOR COORDINATED ACTION AFTER THE GREEK ELECTIONS IF NEEDED

So... if Syriza wins, and Greece leave the Eurozone, there will be a response? Unpossible.

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And the mother of all rumors strikes:

• G20 SOURCES SAY CENTRAL BANKS PREPARING FOR COORDINATED ACTION AFTER THE GREEK ELECTIONS

One small problem. Central banks NEVER indicate in advance what they will do. This is merely a desperation attempt to ramp markets into the close, and sucker even more retail into stocks ahead of Sunday. Now we wait for the denial because otherwise some pathetic G-20 leak just made central banks everywhere irrelevant and obsolete: remember what happened to Jamie Dimon when in March he front-ran the Fed...

"I'm too sexy for my body..."--Maestro