Monday, July 18, 2011

Will Funding Issues Bring Europe Together?

And we are back.

Italian and Spanish 10yr bond yields are again at their peaks around 6%. The short-end Eurodollar futures prices are again at their lows (rates at their highs). Current 3m USD Libor fixings hover the 25bps level, but the market price for this same 3m USD Libor (in December Z1) is at its high, around 55.5bps. Or we could say the bringer-of-death TED spread is wider of lately (US T-Bills @ 0.00%, printed negative last week)


1. The largest european peripherals will be issuing debt at very, very high rates. Good, right? No. But against these high funding rates their GDPs aren't growing much, unemployment is high and the globe seems to be slowing down amid a lot of tightening from all sides. Good right? No.
2. Italy money supply plunge flashes red warning signals - Telegraph (h/t Credit Writedowns)

The problems existing in Europe can't be solved in a nice way. Bad stuff must happen, be it money printing (and people selling european bonds because the EUR would collapse), selective default, massive austerity (and negative growth), etc, etc.

Market stress derived from worries about Europe will keep coming even if policy makers engage in a BOLD move. Because even if they come and say "Hey, we're guaranteeing all the debt coming from eurozone sovereigns" something must give. This could mean all countries came together for the greater good, but time would make this headline change. Coming together to save the current mess would mean laws being passed in some countries that would inflict pain. Be it austerity. Be it asset-sales. Be it equity sales in European banks full of sovereign debt. There's no free lunch.

As I have explicited my opinion earlier, this entire situation has now become pure politics. And politicians, for the most part, can't be trusted to put the "global financial system" ahead of "my electorate". This is the stronger reason I like betting against Europe right now. In the US, for the TARP to move forward it was first voted down and the financial markets froze and tumbled. Then TARP moved forward.

In Europe, right now, we're speaking about economic union without fiscal union. That means tax payers in Germany will, when time comes, vote 'No, let's not pay for everyone else's bad behavior'.
And especially Germans. Tough history on their side. Bad choices made back in the days resulted in a lot of pain for them. I do not believe Germans will come rescue the peripherals unless they have been inflicted a massive dose of pain.

That is why I can't buy the EUR currency or peripheral bonds at the current levels. Or can't buy the european stock market at current levels.

Bunds? Perhaps yes, because if, remotely thinking, Germany leaves the EUR currency, their new currency would explode in price. That's very remote, but with so much uncertainty at hand those are the thoughts I am having right now.

I'll stick to shorting the EUR (and USD and GBP) against a basket of higher-growth/commodity/demographics/solid-banking-system countries.
I'll stick to buying German CDS.

*Disclaimer: charts and data are presented as I receive/see them. Sources are usually not checked for validation and my own calculations are of 'back of the envelope'-type. I am aware that some math that I do myself might be wrong and/or misleading to some extent. In financial markets the rate of change of economic data is often more important than the actual level and the perception of 'what is priced in' is more important than 'what is actually going to happen'. This is actually the way people pick entry and exit points. So... yes, sometimes you might say 'This guy is an idiot, this is way wrong!' with a high conviction, being right. Not to worry. Markets are made of expectations and the clash of conviction between its participants. Portfolio managers know that being an idiot is sometimes profitable and being smart is often a bad choice. It is all reality, sometimes good, sometimes bad. By the way: corrections to my analysis and intelligent debate is welcome. theintriguedtrader AT gmail do com

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