Archive - Sep 20, 2011 - Story

Judging by the futures one may be forgiven to assume that sovereign default risk in Europe has moderated today. One would also be 100% wrong. It's contract roll day and Italy downgrade day (first of many: Moody's on deck) not to mention algo ES futures ramp up ignore day, and as a result everything is wider across the board, and Italy 5 Year hit 520 earlier, a new all time record.

To anyone short the USD/EUR-CHF who just went to the bathroom a minute ago, our condolences. The rumor is that the SNB will expand its EURCHF peg to 1.25 tomorrow. Completely unfounded of course. It may just as easily be another forceful intervention round. Or just plain and simple central planner rumor mongering: as noted, Swiss August exports plunged and Hildebrand will take any help he can get.

Gone are the days when rating agencies couched the big fat inconvenient truth in big words and wordy phrases like "Selective Default" (predicated upon 90% acceptances of effective bond tender offers, which as has now become clear is not happening) when discussing Greece. French-owned Fitch let the genie out of the bottle this morning when it announced that it now expects Greece to "probably default" (as in the real deal, not some transitory paper definition), "but not leave the Eurozone." In other words, we have replaced one wishful thinking (partially default) with another (full default, but partial implications). Because unfortunately as most know, there is no charter precedent for keeping a bankrupt country in the EU and currency union. Which means eurocrats are now scrambling to not only lay the liquidity groundwork for a Greek bankruptcy (which they did last week with the global USD liquidity lines, which also conveniently lay out the timing for such an event) but also changing the laws furiously behind the scenes to make sure a Greek default does not violate some European clause, which it certainly will. All of this ignores the fact that the financial aftermath of a Greek default will hit the credibility of the ECB more than anything else. How bureaucracy can provision for that we are not too clear.

An interesting interview in Frankfurter Rundschau with German government advisor Lars Feld shares Germany's latest perspective on Greece, which is, as many expect, that the country at the heart of the Eurozone is merely setting the liquidity framework and backup preparations for the inevitable. To wit: "Restructuring Greece’s debt would cause “limited” reaction in financial markets because they have been expecting a Greek default for some time." Alas, that was the hubris that drove the decision to send Lehman over the cliff. But the world has never learned from history, why should it now? When asked if Greece is broke, Feld cuts to the chase "I fear that Greece has a solvency problem" translation - yes. Not that we needed to get confirmation with 1 Year yields in the mid 100s, mind you. Yet despite recognition of the inevitable, when asked whether Greece will leave the Eurozone, his response: "That would be a disaster - for Greece and for the euro-zone... Greece's economy and its financial system would sink into chaos, at least for a brief period time. And the speculative floodgate against the euro and its member states would open. Those who believe a Greek ouster is possible is at best naive." And therein lies the rub.

• S&P downgraded the sovereign rating for Italy to A from A+, with a negative outlook
• According to Kathimerini, the Greek PM is considering calling for a referendum on whether Greece should continue to tackle its debt crisis within the Eurozone or by exiting the single currency. However, a Greek government spokesman denied this report
• According to FT, Siemens withdrew more than EUR 500mln in cash deposits from a large French bank two weeks ago and transferred it to the ECB. However, Siemens denied the FT article and termed it as factually incorrect
• According to two sources, a big market-making state bank in China's onshore foreign exchange market has stopped foreign exchange forwards and swaps trading with several European banks
• A Greek government source commented that the country has fully paid EUR 769mln in bond coupons due on September 20th. Meanwhile, the Greek 13-week T-Bill auction observed a healthy bid

Following up on the previous story of a gold referendum push driven by the SNB's last ditch choice to peg the CHF to the EUR and potentially pay for this by selling gold, we next learn that when it comes to its currency, the Swiss National Bank really has no options, following a long overdue collapse in exports in August when the CHF soared on global risk aversion and just before Hildebrand started loading up the "asset" side of his balance sheet with Euros. Unfortunately, just like last year when the SNB intervened and loaded up on dollars only to end its intervention following massive paper losses, this time will be no different and we expect that the Swiss people will see the trade off between keeping a viable currency and a sound export sector as one that will ultimately benefit the former. As to what happens to the latter, here is Goldman with a discussion of the huge collapse in Swiss August exports, which is a harbinger of things to come when the SNB's latest intervention attempt is overruled in several months, and reality reasserts itself.

According to an article in Swiss newspaper NZZ (Neue Zuercher Zeitung) the SVP party (Swiss People’s Party) launched a referendum to “protect” the 1,000 tonnes of gold owned by the Swiss National Bank (SNB). Their aim is to:

• make it unconstitutional to sell gold
• force the SNB to hold 20% of its assets in gold (currently 16%)

The SVP said the sale of 1,500 of the SNB’s 2,500 tonnes of gold was regrettable, especially given the Swiss population had no say in this.

Anyone who may have gone to bed last night assuming some version of long-termist reality would finally creep back into the market following rumblings of all out trade war between China and Europe will be sorely disappointed as instead stocks are once again focused on the purely superficial, such as that Greece did not go bankrupt last night and did make its €770 million payment this time, although what will happen in the future depends entirely on the Troica. As for the Troica, their animosity toward Greece will hopefully be moderated after Greece denied a report from Kathimerini, which as we expected had about zero percent chance of any credibility to it, that it would go ahead with a eurozone participation referendum, which obviously would have ended the Euro as the majority of people in Greece (and all of Europe) are well over the monetary experiment. Lastly, Siemens scrambled overnight to clarify the FT news that it had pulled money from a French bank, SocGen as it turns out, but says that this happened back in July, and had nothing to do with the current troubles at the French bank. Lastly, two bond auctions by Spain and Greece came at around previous result, and hence much better than the collapse expected further adding to the short covering pressure.

This paper shows the kind of brilliant research that gets done now that economic commentary is only pursued by Ph.D.s. In this paper, Johansen and Simonsen (2011) come to the surprising conclusion that (spoiler alert!) the US economy operates on Keynesian principles; which differs significantly from its official policy of creating credit whenever a problem appears. The principal evidence offered in support of the author's conclusions is the following chart, showing that both the value of the Dow Jones Industrial Average (DJIA) and the amount of public debt have increased logarithmically since the late 18th century. And since correlation implies causation, the rise of the DJIA must be due to the increasing public debt. Now that we understand how the economy works, it becomes clear how we move forward. Raise public debt. Boost the DJIA! The trickle down effects on the economy shall enrich us all.