UBS' Releases Most Dire Prediction To Date: Greece To Experience "Coercive" Restructuring With CDS Triggering Around March
UBS, which has been issuing ever gloomier forecasts over the past few months, with the sole intent of getting someone to bail out the European financial system, which despite the current stay of execution is increasingly more brittle (because solvency crises only get worse with time, never better), has just come out with its magnum opus. In a report released overnight, the firm's Global Rates Team has just jumped the shark, with a prediction that things in Europe are literally about to implode: "we anticipate that the crisis will deteriorate further than the stressed levels of late November. We do not believe that Greek PSI will take place in a “voluntary” fashion but instead expect coercive restructuring of Greek debt either before or soon after the March redemption, triggering CDS contracts. Greece is not likely to decide to leave the euro area in 2012, though the risks of that happening have certainly increased." And as we well know from previous UBS reports, a departure of a country from the Eurozone would lead to a mass splurge in purchases of guns, spam and gold. So is this merely a last ditch call for a bailout from someone, anyone: either Fed or ECB will do? Most likely. Because if while the general market continues to ignore Europe, and European banks are out there literally screaming the end is nigh, then the truth is surely somewhere inbetween. Especially, if as Reuters reports, Greece is just the beginning. "One of Portugal's most prominent business leaders has moved his family holding company to Holland partly because of uncertainty over whether the country will remain in the euro, Alexandre Soares dos Santos said in a newspaper interview on Saturday. Soares dos Santos, who is chairman of the board of Jeronimo Martins, caused a stir in Portugal this week when it emerged that his family holding company that controls the country's second largest retailer had moved to Holland...."I also don't know if Portugal will stay in the euro. And if it leaves, it will be to the escudo," Soares dos Santos told Expresso, referring to the escudo currency used by Portugal before it adopted the euro. "I have a right to defend my property."" So while everyone continues to expect the best, those who really matter are planning for the worst.
Asked if the transfer had to do with the risk of leaving the euro, Soares dos Santos said: "Clearly. Since 2008 our economic consultants have talked about this."
Jeronimo Martins has been one of Portugal's most successful companies in recent years after having built up a large business in Poland, where it is now the biggest food retailer.
Portugal is currently going through tough austerity under a 78-billion-euro bailout by the European Union and IMF which has sent the country into its deepest recession in decades.
Soares dos Santos said the decision to move the holding to Holland had also been motivated by lack of financing by Portuguese banks, which have been hit hard by the euro zone debt crisis.
Jeronimo Martins has said there is no impact on its tax position from the move by its biggest shareholder.
And back to UBS, which may be on to something:
The 2012 trading year will begin in earnest with the release of Friday’s Non-Farm Payrolls data. This release will either provide more confirmation of progressive forward movement in the U.S. economy or undermine this nascent optimism and allow the unfolding events in Europe to influence the price action. It continues to be a bimodal world and investors have remained close to benchmarks as they wait for a dominant theme to emerge.
Political risk continues to pollute the investment landscape. In the U.S., President Obama appears to be staking out a strategy of making Congressional dysfunction his main issue, pushing forward with political appointments during the holiday recess and posing as the populist advocate. The Payroll Tax Relief bill expires – somewhat appropriately – on February 29, providing a near term casus belli for the ideologues in Congress. The Republicans are waging internecine war as they move through the primaries, a process which will likely come to a resolution by late winter. The Supreme Court will soon hear cases on the President’s health care reform and Arizona immigration laws and is expected to issue a decision by early Summer. From that point on the focus will deservedly be on the November 6 election. The House is likely to remain in Republican hands, the Senate is anticipated to move towards an even split (with some pundits looking for an incremental Republican edge), while President Obama holds a 51% margin (intrade.com) over the yet to be determined Republican nominee. As all these events unfold, the prospects for any significant fiscal package, regulatory clarification, or tax reform remain nil.
With little help from the fiscal side, the U.S. economy is expected to continue to move forward at a 2.25% pace over the calendar year (annual change), with inflation by most metrics holding to around 2.0%. The Unemployment Rate will remain stubbornly high – we currently forecast 8.6% at year end. The Fed is expected to remain locked down at 0.0% on the policy rate with the Open Market Desk continuing to shift the remaining balance of risk ($266 billion) towards the long intermediate and long end of the curve by June 30. While it’s not our expectation that the central bank will engage in further supportive measures such as QE, we do acknowledge the ongoing dovish tone of the FOMC Minutes as well as the cast of their public comments.
Against this backdrop of political events and economic activity we caution against taking duration risk. We see opportunities to enhance relative return along the curve, and advocate positioning for flatteners in the 2s/5s and 10s/30s parts of the curve, while forecasting a steepening in the 5s/15s sector. In the current refi-constrained world, volatility hedging remains subdued and vega is expected to decline. Lower long dated volatility and a stagnant to declining supply of mortgage product are expected to be supportive of the basis. The foreign official and Open Market Desk bid for MBS should also favor a narrower basis. As befits the parlous state of affairs, we advocate a tactical long position in gamma on 10- and 30- year tails. This can be funded with short gamma on five year tails where we expect little volatility in any outcome and short position in intermediate vega.
In Europe, events are expected to continue to move along a spasmodic evolutionary path. Greece will remain at the forefront of the crisis. We do not believe that Greek PSI will take place in a “voluntary” fashion but instead expect coercive restructuring of Greek debt either before or soon after the March redemption, triggering CDS contracts. Greece is not likely to decide to leave the euro area in 2012, though the risks of that happening have certainly increased.
As a result of the above - and other factors – we anticipate that the crisis will deteriorate further than the stressed levels of late November. As the situation becomes more disorderly, we anticipate a “big bang” commitment to future common debt issuance from governments, as well as institutional change to ensure fiscal discipline. The ECB will probably not provide the solution to the crisis by itself, but it might act to buy time for governments if they commit themselves in this way. We recommend buying the periphery when the commitment is made, even after a significant spread tightening. From then on, fade significant weakness in core spreads to swaps.
Our only question: what happens if no commitment is made and/or the only one with the ability to bail out Europe, and the world, remains the Fed?
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