In the News This 29th Day of June, 2010: A Whole Bunch of “This Ain’t No Surprises” from Europe
From CNBC.com: Europe
Double-Dip May Bring Correction: Roubini
Economic woes in Europe could spread
to the U.S. and lead to a further correction in stock prices, Nouriel
Roubini, chairman of Roubini Global Economics, told CNBC on Monday.
Hey, but wasn’t I saying that since January of this year??!! Remember
back February when the media and the sell side analysts said the Greek
problems were soon to be solved and this definitely was not a “European”
problem but rather a localized one?
BoomBustBlog, February 7, 2010: The
Coming Pan-European Sovereign Debt Crisis – introduces the crisis
and identified it as a pan-European problem, not a in localized one.
Sovereign Risk Alpha: The Banks Are
Bigger Than Many of the Sovereigns
This is just a sampling of individual
banks whose assets dwarf the GDP of the nations in which they’re
domiciled. To make matters even worse, leverage is rampant in Europe,
even after the debacle which we are trying to get through has shown the
risks of such an approach. A sudden deleveraging can wreak havoc upon
these economies. Keep in mind that on an aggregate basis, these banks
are even more of a force to be reckoned with. I have identified Greek
banks with adjusted leverage of nearly 90x whose assets are nearly 30%
of the Greek GDP, and that is without factoring the inevitable run on
the bank that they are probably experiencing. Throw in the hidden NPAs
that I cannot discern from my desk in NY, and you have a bank that has
problems, levered into a country that has even more problems.
Bloomberg has as a headline today: Stress
Tests on European Banks Must Assess Sovereign Risks, EU Draft Shows.
Duhhh! As if we should really ignore the biggest threat to the solvency
of the the European banking system in a so-called “stress test”. What
is this, Geithner “lite”? Reference How Greece Killed Its Banks! to see exactly how
much damage those who wish to ignore sovereign risks are trying to hide…
While bank capital rules give a risk
weighting of zero percent for government debt rated AA- or higher, it
jumps to 50 percent for debt graded BBB+ to BBB- on the S&P scale
and 100 percent for BB+ to B-.
“These downgrades are going to cause
people to increase their risk weightings,” Yelvington said.
Well, the answer is…. Insolvency! The
gorging on quickly to be devalued debt was the absolutely last thing
the Greek banks needed as they were suffering from a classic run on the
bank due to deposits being pulled out at a record pace. So assuming
the aforementioned drain on liquidity from a bank run (mitigated in
part or in full by support from the ECB), imagine what happens when a
very significant portion of your bond portfolio performs as follows
(please note that these numbers were drawn before the bond market route
of the 27th)…
The same hypothetical leveraged
positions expressed as a percentage gain or loss…
When I first started writing this
post this morning, the only other bond markets getting hit were
Portugal’s. After the aforementioned downgraded, I would assume we can
expect significantly more activity. As you can, those holding these
bonds on a leveraged basis (basically any bank that holds the bonds)
has gotten literally toasted. We have discovered several entities that
are flushed with sovereign debt and I am turning significantly more
bearish against them. Subscribers, please reference the following:
- Leveraged European Entities from a
Sovereign Risk Perspective – retail
- Leveraged European Entities from a
Sovereign Risk Perspective – professional
To date, my work both free and
particularly the subscription work, has shown signifcant returns. I am
quite confident that the thesis behind the Pan-European Sovereign Debt
Crisis research is still quite valid and has a very long run ahead of
it. Let’s look at one of the main Greek bank shorts that we went
bearish on in January:
On that topic, be aware that this sovereign risk, amplified and
leveraged though the Pan-European banking system will quickly turn into
economic contagion. Once we have that, then its time to start discussing
the potential for depressions.
Austria, Belgium and Sweden, while
apparently healthy from a cursory perspective, have between one quarter
to one half of their GDPs exposed to central and eastern European
countries facing a full blown Depression!
Click to Enlarge…
These exposed countries are
surrounded by much larger (GDP-wise and geo-politically) countries who
have severe structural fiscal deficiencies and excessive debt as a
proportion to their GDPs, not to mention being highly “OVERBANKED” (a
term that I have coined).
So as to quiet those pundits who feel
I am being sensationalist, let’s take this step by step.
Depression (Wikipedia): In economics, a depression
is a sustained, long-term downturn in economic activity in one or more
economies. It is a more severe downturn than a recession, which is
seen as part of a normal business cycle.
Considered a rare and extreme form of recession, a depression is
characterized by its length, and by abnormal increases in unemployment, falls
in the availability of credit,
shrinking output and investment, numerous bankruptcies,
reduced amounts of trade
and commerce, as well as highly volatile relative currency value
fluctuations, mostly devaluations.
Price deflation, financial crisis
and bank failures
are also common elements of a depression.
There is no widely agreed definition for a depression, though
some have been proposed. In the United States the National
Bureau of Economic Research determines contractions and expansions
in the business cycle, but does not declare depressions.
Generally, periods labeled depressions are marked by a substantial and
sustained shortfall of the ability to purchase goods relative to the
amount that could be produced using current resources and technology (potential output).
Another proposed definition of depression includes two general rules:
1) a decline in real GDP exceeding 10%, or 2) a recession lasting 2 or
Before we go on, let’s graphically
what a depression would look like in this modern day and age… A
depression is characterized by its length, and by abnormal
increases in unemployment.
Price deflation , financial crisis
and bank failures
are also common elements of a depression.
A depression is characterized by
… shrinking output and investment… reduced amounts of trade and commerce.
… as well as highly volatile relative
currency value fluctuations, mostly devaluations.
A former premier has called for a 30% devaluation and
a sitting minister said in June that there should be a “debate.”
Meanwhile, chief executive of SEB, Sweden’s number two bank, says total
loan losses would ultimately be little different if the Baltics stayed
the course or devalued now – though rapid devaluation might be tougher
to deal with. (Lex/FT.com)
As I stated above, the austerity measures being implemented, in
combination with the compounded financial contagion levered through the
banking system is bound to translate directly into economic contagion.
Contagion vs. Economic Contagion: Does the Market Underestimate the
Effects of the Latter? Once this happens, the seeds for rolling
recessions and potential depressions will spread rapidly and through
unforeseen paths and channels. We at BoomBustBlog have taken great pains
to anticipate these paths and channels, for we are sure they are going
to arrive. The result of our analytical efforts is culminated in The
BoomBustBlog Sovereign Contagion Model: Thus far, it has been right on
the money for 5 months straight!:
The BoomBustBlog Sovereign Contagion
Nearly every MSM analysts roundup
attempts to speculate on who may be next in the contagion. We believe
we can provide the road map, and to date we have been quite accurate.
Most analysis looks at gross claims between countries, which of course
can be very illuminating, but also tends to leave out many salient
points and important risks/exposures.
In order to derive more meaningful
conclusions about the risk emanating from the cross border exposures, it
is essential to closely scrutinize the geographical break down of the
total exposure as well as the level of risk surrounding each component.
We have therefore developed a Sovereign Contagion model which aims to
quantify the amount of risk weighted foreign claims and contingent
exposure for major developed countries including major European
countries, the US, Japan and Asia major.
I. Summary of the methodology
- We have followed a bottom-up approach wherein we have first
identified the countries/regions with high financial risk either owing
to rising sovereign risk (ballooning government debt and fiscal deficit)
or structural issues including remnants from the asset bubble
collapse, declining GDP, rising unemployment, current account deficits,
etc. For the purpose of our analysis, we have selected PIIGS, CEE,
Middle East (UAE and Kuwait), China and closely related countries
(Korea and Malaysia), the US and UK as the trigger points of the
financial risk dissemination across the analysed developed countries.
- In order to quantify the financial risk emanating in the selected
regions (trigger points), we looked into the probability of the risk
event happening due to three factors – a) government default b) private
sector default c) social unrest. The probabilities for each factor were
arrived on the basis of a number of variables determining the relative
weakness of the country. The aggregate risk event probability for each
country (trigger point) is the average of the risk event probability
due to the three factors.
- Foreign claims of the developed countries against the trigger point
countries were taken as the relevant exposure The
exposures of each developed country were expressed as % of its
respective GDP in order to build a relative scale for inter-country
- The risk event probability of the trigger point countries was
multiplied by the respective exposure of the developed countries to
arrive at the total risk weighted exposure of each developed country.
- Sovereign Contagion Model – Retail –
contains introduction, methodology summary, and findings
- Sovereign Contagion Model – Pro &
Institutional – contains all of the above as well as a very detailed
methodology map that explains what went into the model across dozens
Latest Pan-European Sovereign Risk
Non-bank Subscription Research
public finances projections_040710
public finances projections_033010
Public Finances March 2010
public finances projection
Public Finances Projections
In Bloomberg’s headlines for this morning: Greeks
Stage National Strike to Protest Overhaul to Pensions, Labor Laws Greeks
Stage National Strike to Protest Overhaul to Pensions, Labor Laws. We
have discussed this in depth throughout the first quarter. As a matter
of fact, in the first quarter, I penned the inevitability of such, and
two quarters later, the strikes continue…
Country is Next in the Coming Pan-European Sovereign Debt Crisis? –
illustrates the potential for the domino effect. Excerpted below…
It is nonsensical to assume strikers will institute just “one”
strike, knowing full well that a single strike will not drive the point
home. It is beyond wishful thinking. Even if that was the case, all
the union leaders need to do is read Bloomberg to sharpen their plans.
And on that not, in the nearly five months later….
I have harped on this topic in my previous Pan-European
Soverign Debt Crisis post, but let me drive it home again. Greece
is merely a test drive by traders and those who are truly concerned
about the debt overhang from the global bailout. Yes, it has the
highest debt to GDP ratio, but it is closely followed by much larger
nations with much worse, and much more immediate debt and NPA issues.
As initially illustrated in my last post on this topic, when
pondering the sovereign debt status of Italy, Spain and Ireland, keep
in mind how much of their GDP is bogged down by NPAs in their banking
systems – and this is what is reported, knowing full well that the
reporting is at best, lagged in
terms of non-performing assets…
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.