In the News This 29th Day of June, 2010: A Whole Bunch of “This Ain’t No Surprises” from Europe

From 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:

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:nbg since research

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.

Reference The Depression is Already Here for Some Members of Europe, and It Just Might Be Contagious!

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 deflationfinancial 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.[1] 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).[2] Another proposed definition of depression includes two general rules: 1) a decline in real GDP exceeding 10%, or 2) a recession lasting 2 or more years.[3][4]

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/


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. See Financial 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 Model

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.

foreign claims of PIIGS

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 comparison.
  • 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.

Latest Pan-European Sovereign Risk Non-bank Subscription Research

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…

  1. What 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…

  2. The 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.

  3. The Coming Pan-European Soverign Debt Crisis, Pt 4: The Spread to Western European Countries


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