Portugal

Overnight Sentiment Better On Yet More Easing

In a world in which markets are simply policy instruments of central planners it is no surprise that the only thing that matters is how much money is injected by any given central bank at any given time. Last night, following the Fed and the BOJ, it was the turn of Australia, which in a "surprise" move cut policy rates by 25 bps. From SocGen: "Reacting to a weaker global economic outlook, which has moderated the outlook for growth in Australia, the Reserve Bank of Australia cut its policy rate today by 25bp to 3.25%, a move that was predicted by only a minority of forecasters (including us). Nevertheless, we believe that markets are too aggressively priced for further rate reductions: we expect a low of 3.00%, to be reached by year-end, but the swap market is currently discounting a low of 2.4% by mid-2013. The reasons the RBA stated for lowering rates centered mostly on the global economic outlook, which has softened over recent months, not least because of greater uncertainty about near-term prospects in China, and hence the outlook for Australia is seen as a “little weaker”. The RBA also stated that the resource investment peak may be lower than previously thought." Sure enough, the move sent Australian stocks to 5 month highs, and global equity futures spiking. Of course, in the open-ended global race to debase perhaps it is more surprising i) they did not do this sooner and ii) not more banks have "cut" yet. Ironically, while the ECB, BOE and SNB are still contemplating next steps to catch up with Bernanke, it is the BOJ which in the abysmal failure of its own QE 8 from three weeks ago, is now contemplating QE 9 - the foreign bond edition (because buying treasury and corporate bonds, ETFs and REITs is never enough). Naturally, all this additional liquidity and promises thereof, has sent futures to fresh highs as more and more latent inflation is loaded up in the global monetary system.

Lest We Forget

Leading up to the American Financial Crisis. We all had the data, we all saw the sub-prime mess, we all saw the leverage, we all saw the money handed out for nothing and the non-disclosure documents, we all saw the lack of credible ratings supplied by the ratings agencies and yet we went on like it would all continue forever. We ignored it all. We turned our backs but then; we got scalped and so the prime questions must be asked: Are we wise men or are we fools? Did we learning anything from the last go round? Should we act now before we are scalped again considering we only have one head? Since the American Financial Crisis the world has lived off the largesse of the major central banks. It has been a slippery slope and each capital injection or “save the world” speech has been met by risk-on and higher markets as liquidity floods the system. It is a judgment call on our part but we think we are about done with the effectiveness of moves by the central banks.

The Operatic Grandeur Of "More Europe"

Europe is becoming quite strange. The World is becoming quite strange. A politician gets up and speaks and says nothing, no one listens to what he said, then he is roundly congratulated for his bold words that were heard by no one and then everyone disagrees with what they think he might have said. The Continent seems to be in a dream-state where the worse it gets; the better it is because the ECB will be drawn in and provide liquidity like the ever-after will provide Redemption. I am not sure America is any better actually. In the United States we admit we are printing money while in Europe they “print and deny” but the outcome is about the same. Economic and fiscal reality is a thing of the past as the world’s Central Banks will provide manna, sustenance and well-being.

"Not Counted" Does Not Mean "Not There"

The ECB has $15 trillion in loans outstanding to Europe. They claim a $4 trillion balance sheet based upon not counting guaranteed loans by various nations and by not counting contingent liabilities. This is the same scheme that is used for calculating the debt to GDP ratios of the countries in Europe. If a loan, a debt, is guaranteed by a nation or if the liability is “contingent;” it is not counted. This, of course, does not mean that possibility of having to fund or write-off something is not there; it just means it is not counted. Do not disregard or minimize the recent announcement by Germany, Finland and the Netherlands that was joined twenty-four hours later by Austria. The funding nations in Europe placed a line in the concrete when they rejected assisting legacy issues and loans. This group of nations vacated, in this one statement, all of the pleas and demands of the periphery countries that had lined up for aid and ever-more aid relying upon the pledges of the solidarity of Europe and they got an answer, a very Germanic answer which is not, I am quite sure, what they wanted to hear.

Europe Goes Pear-Shaped

We warned yesterday that European credit markets were sending very different signals to the equity markets and sure enough today saw a bloodbath across European equity, credit, and sovereign bond markets. Portugal and Spain 10Y spreads are now +46bps wider on the week (and Italy +30bps) with Spain back over 6% yield (460bps spread) and at more than three-week wides. While plenty will say 'but look where we came from' when today's dumpfest is put in context, but the critical aspect is the velocity and severity of today's 3-4% drop in Italy and Spain's equity markets and European banks now down over 9% from their post-FOMC peak (retraced more than 60% of the post-ECB rally). Europe's VIX jumped to over 22% as credit spreads (most notably subordinated financials - thanks to the 'AAA'nxiety over the banking union) were smashed wider. It seems Ben's all-in move was the catalyst to bring a realization that things may indeed be worse than we thought - as sovereigns have blown wider since.

Spanish 10Y Bond Yield Breaches 6% - Highest In 3 Weeks As Nothing Still Fixed

The yield on 10Y Spanish bonds just broke back above 6% for the first time in three weeks as the spread to Bunds also broke above 450bps. Now up over 33bps this week (along with Italy +20bps and Portugal +36bps), it seems the market is waking to the idea that words are simply not as good as actions and even actions are irrelevant if they simply kick the can. The front-end of the Italian and Spanish curves are underperforming today (Italy 2Y +12bps and Spain +22bps) as the OMT-front-running exuberance a-la-LTRO is being unwound. It seems European credit markets were indeed on to something yesterday as they underperformed. Spanish and Italian equity markets are down around 3% with France off more than 2% and credit spreads widening notably further in financials and corporates - as EURUSD slides to 1.2850.

European Risk Is Back: CDS Surge, Spain 10 Year Back Over 6%, Germany Has Second Uncovered Auction In Three Weeks

Remember when we said two months ago that one way or another the market will need to tumble to enforce the chain of events that lead to Spain demanding the bailout which has long been priced in, and (especially after yesterday's violent protest) Rajoy handing in his resignation? Well, it's "another." After nearly 3 months of suspending reality, in hopes to not "rock the boat" until the US presidential election, reality has made a quick and dramatic appearance in Europe, where after a day in which the EURUSD tumbled, events overnight have finally caught up. What happened? First, ECB's Asmussen said that the central bank would not participate in any debt restructuring, confirming any and all hopes that the ECB would ever be pari passu with regular bondholders were a pipe dream. Second, Plosser in the US said additional QE probably won't boost growth which has reverberated across a globe in which the only recourse left is, well, additional QE. Finally, pictures of tens of thousands rioting unemployed young men and women in Madrid did not help. The result: Spain's 10 Year is over 20 bps wider, and back over 6%, Germany just had a €5 billion 10 Year auction for which it only got €3.95 billion in bids, which means it was technically a failure, and the second uncovered auction in one month, and finally CDS across the continent, not to mention the option value that is the Spanish IBEX which may fall 3% today, have finally realized they are priced far too much to perfection and have, as a result, blown out.

Quantifying The 6 Downside And 2 Upside Risks To Global Markets

While much attention has been paid to what Draghi has 'talked' about doing, what Bernanke 'is' doing, what EU Leaders 'are not' doing, and what US politicians 'will not' do - the world's risk markets remain on edge. Admittedly, for now, that edge seems biased to the 'we-believe' side of the fence. However, as Deutsche Bank notes, in their wonderfully succinct chart comparing the impact and probability of potential upside and downside risks to global markets, it is economic (or real!) data that should worry investors the most - though we still fear the Kubler-Ross 'denial' stage that in which Spain/Italy/Portugal/Greece remain mired.

Frontrunning: September 25

  • China carrier a show of force as Japan tension festers (Reuters)
  • Draghi Rally Lets Skeptics Dump Spain for Bunds (Bloomberg)
  • China’s Central Bank Injects Record Funds to Ease Cash Crunch (Bloomberg)
  • Obama warns Iran on nuclear bid, containment 'no option' (Reuters)
  • When Would Bernanke’s Successor Raise Rates? (WSJ) that's easy - never
  • Italy's Monti Downplays Sovereignty Risk (WSJ)
  • Portugal swaps pay cuts for tax rises (FT)
  • Madrid faces regional funding backlash (FT)
  • Berlin Seeks to Push Back New Euro-Crisis Aid Requests (WSJ)
  • Race Focuses on Foreign Policy (WSJ)
  • China Speeds Up Approvals of Foreigners’ Stock Investment (Bloomberg)

Frontrunning: September 24

  • World on track for record food prices 'within a year' due to US drought (Telegraph)
  • Foxconn halts production at plant after mass brawl (BBC)
  • Germany Losing Patience With Spain as EU Warns on Crisis Effort (Bloomberg)
  • Fed Recovery Doubts Spur Investor Bid for Treasuries (Bloomberg)
  • Japan protests as Chinese ships enter disputed waters (Reuters)
  • In Shark-Infested Waters, Resolve of Two Giants Is Tested (NYT)
  • China jails Wang Lijun for 15 years (FT)
  • China closes in on Bo Xilai after jailing ex-police chief (Reuters)
  • European Leaders Struggle to Overcome Crisis Stalemate (Bloomberg)
  • Politicians 1: Austerity 0 - Portugal Gives Ground on Worker Contributions (WSJ)
  • Obama Controls Most of His Money as Republicans Have More (Bloomberg)
  • Coeure Says Not Clear That Further ECB Interest-Rate Cut Needed (Bloomberg)
  • France Seeks Labour Overhaul (WSJ)

IceCap Asset Management: Three Days That Shook The World, And The Law Of Diminishing Returns

Let’s review the tricks the central banks & governments have available to beat back any financial challenges presented by the debt reaper.

  • Money tool # 1 = deficit spending. For years, the G7 countries have believed that spending more than you make, will create jobs and prosperity. To measure the success of this strategy, we invite you to hang out in Spain, Greece or Italy.
  • Money tool # 2 = cut interest rates to 0%. All the really smart people in the World know that lower interest rates encourage people and companies to borrow more money and spend this money. To measure the success of this strategy, we invite you to hang out at the US Federal Reserve and help them count the $1.5 trillion in excess money held by the big banks.
  • Money tool # 3 = when all else fails print money. Everyone knows by now the reason the Great Depression was great was because no one had the idea to print money to kick start the economy. To measure the success of this strategy, we definitely do not invite you to visit Japan. The Japanese have been printing money for over 10 years and that hasn’t shaken their economy from its funk one bit.

As we enter the always dangerous months of September and October, central bankers and governments just can’t get their heads around the fact that their cherished money tools are not shaking the World. Never one to quit, someone somewhere muttered “we must do something” – and something they did.

"What's Next?": Simon Johnson Explains The Doomsday Cycle

There is a common problem underlying the economic troubles of Europe, Japan, and the US: the symbiotic relationship between politicians who heed narrow interests and the growth of a financial sector that has become increasingly opaque (Igan and Mishra 2011). Bailouts have encouraged reckless behaviour in the financial sector, which builds up further risks – and will lead to another round of shocks, collapses, and bailouts. This is what Simon Johnson and Peter Boone have called the ‘doomsday cycle’. The continuing crisis in the Eurozone merely buys time for Japan and the US. Investors are seeking refuge in these two countries only because the dangers are most imminent in the Eurozone. Will these countries take this time to fix their underlying fiscal and financial problems? That seems unlikely. The nature of ‘irresponsible growth’ is different in each country and region – but it is similarly unsustainable and it is still growing. There are more crises to come and they are likely to be worse than the last one.

First Spanish Bailouts Conditions Revealed: Pension Freeze, Retirement Age Hike

As we reported first thing this morning, Spain, while happy to receive the effect of plunging bond yields, most certainly does not want the cause - requesting the inevitable sovereign bailout. To paraphrase Italy's undersecretary of finance, Gianfranco Polillo: "There won’t be any nation that voluntarily, with a preemptive move, even if rationally justified, would go to an international body and say -- ‘I give up my national sovereignty." He is spot on. However, the one thing that will force countries to request a bailout is the inevitable outcome of soaring budget deficits: i.e., running out of cash (as calculated here previously, an event Spain has to certainly look forward to all else equal). Which simply means that sooner or later Mariano Rajoy will have to throw in the towel and push the red button, knowing full well it most certainly means the end of his administration, and very likely substantial social and political unrest for a country which already has 25% unemployment, all just to preserve the ability to fund its deficits, instead of biting the bullet and slashing public spending (and funding needs), which too would cause social unrest - hence no way out. But why would a bailout request result in unrest? Reuters finally brings us the details of what the Spanish bailout would entail, and they are not pretty: "Spain is considering freezing pensions and speeding up a planned rise in the retirement age as it races to cut spending and meet conditions of an expected international sovereign aid package, sources with knowledge of the matter said...The accelerated raising of the retirement age to 67 from 65, currently scheduled to take place over 15 years, is a done deal, the sources said. The elimination of an inflation-linked annual pension hike is still being considered."

Guest Post: European Car Engine Sputtering

According to data released by ACEA (European Automobile Manufacturers’ Association) new passenger car registrations fell 8.9% in August after a decline of 7.8% in July. In 2011, Germany produced 5.8 million passenger cars, of which 77% (4.5m) were exported, making cars and parts the most valuable export good (EUR 185bn). A heavily export-dependent German automotive industry looks vulnerable to setbacks in important markets.