Belgium

Even today, the price of insurance on a government default has been higher than that for Colgate Palmolive, the global toothpaste giant, which has a rating two notches below AAA.

Watch for those FRBNY liquidity swaps to spring in action momentarily as Dexia was, is and will be the bank that sets off the dominoes in Europe's core. "Moody's Investors Service has downgraded to A3 from A1 the long-term senior debt and deposit ratings of Dexia Group's three main operating entities: Dexia Bank Belgium (DBB), Dexia Credit Local (DCL) and Dexia Banque Internationale a Luxembourg (DBIL). This was driven by the lowering of these entities' Bank Financial Strength Ratings (BFSRs) to D, which corresponds to Ba2 on Moody's long-term scale, from C-/ Baa2 previously. The outlook on the BFSRs is negative.Dexia continues to suffer from the consequences of the financial imbalances mentioned above, inherited from the pre-crisis period. The rating agency recognises the group has made material improvements since the peak of the crisis

While everyone is focusing on the by now default (pardon the pun) assumption that Greece will default, it may be time to redirect attention to the core of the Eurozone, where tomorrow will mark the 6 month anniversary of S&P's threat that it will downgrade a still government-less and AA+ rated Belgium. From December 14: "If Belgium fails to form a government soon, a downgrade could occur, potentially within six months." Newsflash, at least for S&P which appears to need reminding of what garbage it has published in the recent past: tomorrow is the 6 month anniversary of this report. And the conditions for the downgrade are still there. So instead of continuing the "high and mighty" charade with now weekly downgrades of Greece, perhaps it is time to really throw the Eurozone in a loop and remind the world that the line between the PIIGS and the "developed" nations is relaly non-existent.

About a month ago Belgium's biggest bank, and as is now well known one of the most active borrowers at the Fed's discount window in the days following the Lehman crisis, issued €3.2 billion in FRNs with a two year maturity that had an odd feature: an ultra short term put feature (as the Bloomberg screen shows below, puttable June 26, 2011 at par) which can be exercised up to 33 days ahead of the put day (underwritten by Barclays, Citi and MS) or in other words, today. Well, as our source has told us, following recent downgrades of virtually all banks with Greek exposure (a topic further pursed by the below IFR article), the two largest investors in the bond: Blackrock, which owns the bulk or about €2.6 billion, and Barclays (among others) have exercised their put option. The speculation is that "either someone knows something or had a very rapid change of heart" and concludes that "this should make the whole funding thing relevant again" especially since banks continue to rely on the ECB exclusively for short-term liquidity needs. Also possible a jump in Fed Discount Window borrowings if the ECB is unable or unwilling to cross-collateralize even more Greek debt exposure. The advice: "start watching Libor/Euribor and the Forwards basis" for some near-term volatility. If this is confirmed, look for any/all other comparable short-term put deals to suddenly spring the investor option to pull their capital, and the domino avalanche to set off in earnest.

Two weeks ago we speculated that S&P would downgrade Belgium next as the peripheral fire makes inroads to the core. Turns out Fitch is taking charge on this one. Expect S&P to follow shortly. From the just released Fitch statement which revises Belgium's outlook to negative: "In Fitch's view, without political agreement over constitutional reform, it will be difficult to achieve a balanced budget at general government level as laid out in Belgium's Stability Programme. This would require budgetary surplus at lower levels of government and/or significant social security reform, either of which would likely become entangled in Belgium's linguistic-community dispute. Sustained debt reduction will require fiscal reform as well as fiscal discipline over the coming years, which in turn requires a new government with a fresh mandate." EUR for now pretending it doesn't care.

With so much of the attention once again focused on Europe's periphery (which somehow the efficient market could not be bothered with for about 4 months, even though it was all there, staring people in the face all along), it may be time to recall the Europe's core is just as troubled as everything else. Some may recall that back on December 14, S&P came out with a bit of a stunner (which in retrospect looks rather tame following the now forgotten warning on the US Debt): "And so European contagion is back as S&P, now clearly with a mandate
to remind that Europe is in a heap of trouble every month or so, puts Belgium on Outlook negative, saying that it is basically just a matter of time before the country loses its AA+ rating. The bogey: 6 months, which likely means that around May of next year, just like a year prior, we will see the same fireworks out of Europe, only this time not from Greece, but from the very heart of what is left of a solvent continent. "If Belgium fails to form a government soon, a downgrade could occur, potentially within six months.  Should a government be formed but is, in our opinion, ineffective in its fiscal stance or devolution, we are likely to consider rating action within two years." Well, it is now 6 months later, and Belgium still has no government. Time to pull the switch?

We live in
Belgium, a little country right in the heart of Europe. The country is in many
ways a small version of Europe. Most have heard of Brussels, which is not only
the capital of Belgium, but of the whole of Europe. Belgium is becoming a divided
country, with the two largest communities – the Flemish (Dutch speaking) and
the Walloons (French speaking) –  opposing
to each other on different levels, but mostly about financial issues.

Earlier today Portugal had a deplorable bond auction of €1 billion in 12 month Bills, which saw the interest rate paid jump to nearly 4.5% even as general demand indicated by Bid to Cover plunge from 3.1 to 2.2. And even so, the bulk of the purchasing was from Asia, read China, as the last thing Japan needs now is to rescue a insolvent Portugal, according to a finance minister disclosure. From Reuters: "The 12-month T-bill yield rose to 4.331 percent from 4.057 percent in an auction on March 2, in line with analyst expectations of around 4.3 percent and with the secondary market. It also stayed below record levels seen in December." Alas, while Portugal purchased a few days of funding, it merely confirmed that it is now effectively bankrupt as paying 4.3% for 12 months worth of debt indicates the Rubicon has long been passed. Look for Portugal to be bailed out any minute. And in attempting to avoid the same fate, Belgium decided to "postpone" its own bond issuance of 6 year benchmark notes on concern investors will puke all over the paper. "Belgium delayed the sale of a new six-year benchmark bond on Tuesday due to market volatility caused by the Japan earthquake and explosions at a nuclear power station there. Plans to issue the new bond, maturing in June 2017, were announced on Monday, with Deutsche Bank, KBC Bank and Morgan Stanley mandated as joint bookrunners. The markets are so volatile at the moment and attention is concentrating on what is happening in Japan," debt agency chief Anne Leclerq told Reuters." Luckily unlike Portugal which has no choice but to raise debt at every opportunity, Belgium has the choice to await greener pastures. For now.

The reverse dutch auction model for Europe's insolvent countries is dead. Earlier today Spain announced it would cancel its planned bond auction for January 20, and instead plough ahead with syndicated issuance. For those unclear with what this means, Spain is essentially saying the market pricing mechanism on its debt is too transparent and adds "volatility" and therefore the country would rather have banks underwrite the whole issue i.e., take the issuance risk on their books, thus spare Spain the embarrassment of a failed bond auction. And Spain is just the start: Portugal and Belgium have followed suit, in an action that is sure to stretch the already frayed nerves of European sovereign bond investors as this kind of last ditch effort is always taken before something is about to go "snap." From the Irish Times: "Spain's Treasury, facing a volatile market as it looks for ways to keep its debt costs under control, cancelled a bond auction planned for Thursday and said it would issue a syndicated bond over 10 years. Belgium is also seeking an opportunity to place debt with a syndicate of banks and Portugal also plans one for the first quarter, as fiscally stretched sovereign issuers elsewhere in Europe also seek to cut spiraling financing costs." And lest readers get the impression that this is purely a European development, China just announced that it is suspending its sterilization bill sales for the balance of the week. Did the European bond market suddenly die?

Six months after the general election, Belgium still has no new government. Flemish nationalist Bart De Wever, head of the country’s largest party, wants to split Belgium into two states. In an interview that has caused a scandal in his country, he told SPIEGEL why the nation has “no future.” SPIEGEL explains:

Meet the contestants in the European insolvency race, direct elimination round:

And so European contagion is back as S&P, now clearly with a mandate to remind that Europe is in a heap of trouble every month or so, puts Belgium on Outlook negative, saying that it is basically just a matter of time before the country loses its AA+ rating. The bogey: 6 months, which likely means that around May of next year, just like a year prior, we will see the same fireworks out of Europe, only this time not from Greece, but from the very heart of what is left of a solvent continent. "If Belgium fails to form a government soon, a downgrade could occur, potentially within six months. Should a government be formed but is, in our opinion, ineffective in its fiscal stance or devolution, we are likely to consider rating action within two years." Sure enough, the EURUSD does nothing on the news.

It appears that one way or another, the IMF will provide a lot more American money to the European rescue. Reuters reports that according to the IMF the euro zone should have a bigger rescue fund and the European Central Bank should boost its bond buying to prevent the sovereign debt crisis from derailing economic recovery. "International Monetary Fund chief Dominique Strauss-Kahn
will present the report on the economy of the 16 countries using
the euro at a meeting of euro zone finance ministers and
European Central Bank President Jean-Claude Trichet on Monday." And presumably, and we are speculating here, if the Euro zone can not afford it, the IMF will be more than happy to step in. After all recall that on August 30, the IMF extended the duration of the Flexible Credit Line (FCL), "concurrently removing the borrowing cap on this facility, which previously stood at 1000 percent of a member’s IMF quota, in essence making the FCL a limitless credit facility, to be used to rescue whomever, at the sole discretion of the IMF's overlords." We would think that an infinite amount of money should be enough to rescue even Spain when the time comes. Which begs the question: with everyone expecting muni bonds to be the purchasing target of QE3, will Bernanke again fool everyone and instead opt for direct European bond monetization? After all, the destruction of dollar value is and always has been the Fed's primary imperative, and what better way to achieve this than to collateralize the greenback with Greek bonds?

Belgian bund spreads this morning are modestly tighter, at 81 bps, down 6 bps on the day, after Belgium completed a "successful" bond auction, which was no doubt intermediated by the ECB, as has been the case in all the problematic European bond issues over the past six months. As to how successful it was, the broad drop in the Bid To Cover, coupled with the surge in interest rates, especially in the 3 year, leaves quite a few open questions. Below are the results.

The latest casualty of the European contagion is sleepy, quiet, french-fry and beer specialist Belgium. The country's 10 Year bonds have gone vertical on ever increasing concerns the European core is just as messed up as the periphery. Look for this hockeysticking to add even more tightness to German Bund spreads, until one day the market wakes up and realizes the only country it can now short is Germany itself. That will be game over for Europe.