I have been bearish on European banks since the UK mortgage banks collapsed several years ago. To this day, despite mounds of fundamental and macro evidence pointing to very bad things happening, there are still cheerleaders stating that concerns are overblown. A good example can be found in the post “Greek Crisis Is Over, Region Safe”, Prodi Says – I say Liar, Liar, Pants on Fire!”, on March 14th:
“The worst of Greece’s financial crisis is over and other European nations won’t follow in its path”, said former European Commission President Romano Prodi. “For Greece, the problem is completely over,” said Prodi, who was also Italian prime minister, in an interview in Shanghai today. “I don’t see any other case now in Europe. I don’t think there is any reason to think the euro system will collapse or will suffer greatly because of Greece.””
Okay, I shouldn’t have called him a liar, but a tad bit optimistic, maybe? I actually agree with the last part of his statement. The euro system will not suffer greatly because of Greece, it will suffer greatly because of individual member countries’ problems collectively weighing on the union. As for Mr. Prodi’s accuracy, let’s take a look at the Greek CDS over the time period in question…
Yeah, that’s right! Listening to the former EC President would have gotten you on the wrong side of the TRIPLING of CDS spreads. Not to fret though, the ECB allocated 1 trillion dollars to alleviate this problem, and now spreads have just more than doubled, but are still rising. And for those of you who believed me over Prodi (I apologize again for the “liar, liar pants on fire” bit, though)…
On that note, people have been asking me is it too late to join in on the euro-bank brigade. My opinion is that the cat is out on these popular names, and the option prices have finally caught up with the fundamental and macro prospects of the actual entities. With that being said, those fundamentals and macro prospects look awfully negative. In the posts “With the Euro Disintegrating, You Can Calculate Your Haircuts Here“, “What is the Most Likely Scenario in the Greek Debt Fiasco? Restructuring Via Extension of Maturity Dates” and A Comparison of Our Greek Bond Restructuring Analysis to that of Argentina, I detailed prospective haircuts to be taken on Greek debt, using a thorough forensic analysis methodology. To be absolutely honest, the numbers contained withing the first two were quite optimistic. In reality, in order for any restructuring to work, debt to GDP should be reduced to below 100%. This wasn’t done i the previous Greek analysis, but was hinted at in the Argentinian comparison…
Now, referencing the bond price charts below as well as the spreadsheet data containing sovereign debt restructuring in Argentina, we get…
Price of the bond that went under restructuring and was exchanged for the Par bond in 2005
Price of the bond that went under restructuring and was exchanged for the Discount bond
With this quick historical primer still fresh in our heads, let’s revisit our Greek, Spanish, and Italian banking analyses (the green sidebar to the right), many of which are trying to push the 400% mark in terms of returns if one purchased OTM options at the time of the research release. It may be worthwhile to review the Sovereign debt exposure of Insurers and Reinsurers as well.
We may very well get a bear market rally or two that may pop prices, but from a fundamental perspective, I do not see how significantly more pain is not to come out of this debt fiasco. The only question is who’s next. We feel we have answered that question is sufficient detail through our Sovereign Contagion Model. Thus far, it has been right on the money for 5 months straight!
I am now releasing the updated version of the Greek bank haircut analysis, with the realistic goal of attaining sustainable debt to GDP levels. This is a professional level subscription document, but be assured, the number are ugly – quite ugly. Just as it was for Argentina. Now, just imagine 4 or 5 Argentinas, all multiples of the size of Argentina attempting this style of restructuring and aggressive hair cutting in the midst of aggressive QE going nowhere through another sharp economic decline exacerbated by austerity measures. Long story short, you ain’t seen nothing yet! No matter which way Greece looks at it, and no matter how they restructure, they will have to hit the public markets again by 2014, and that is with subsidies, ECB/EU/IMF bailouts, haircuts, restructurings, the whole nine yards. It ain’t pretty!
This is why the European banks are scared shitless to lend to each other. There’s a very nasty storm brewing up ahead, and umbrellas are selling at premiums, with insolvent counterparties attached. Reference today’s articles from ZeroHedge on the topic:
Europe’s banks are not buying the propaganda about liquidity moderation on the continent. In fact quite the contrary: yesterday’s total usage of the ECB’s overnight deposit facility hit a fresh all time record of €361.7 billion. This is an €11 billion increase from the night before and €55 billion from a week earlier. This means that all the excess liquidity in Europe is getting tied into the safety of the central bank, and the market continues to experience a liquidity glut. It also explains why both 3 and 6 month Euribors crept higher today, to 0.713% and 0.999%, just wider compared to yesterday’s fixings. Ignore all the populist rhetoric: the liquidity in Europe is getting worse with each passing day, as the banks’ own actions confirm.
Oh yeah, this is all despite the fact that the Eurozone Nations Set Up $1 Trillion Bailout Fund. European banks are hitting the ECB for parking their cash (as opposed to to lending to fellow banks that are killing themselves or are nearly guaranteed suspect counterparties) at a greater rate that at ANY time during the crisis including the collapse of Bear Stearns and the bankruptcy of Lehman Brothers.
Professional subscribers should reference the live, online spreadsheet: Greek Debt Restructuring Analysis with Sustainable Debt/GDP Ratio Limits – Professional