Overnight Sentiment: On Fumes
Following a blistering two days of upside activity in Europe and a manic depressive turn in the US in the past 48 hours, the rally is now be running on fumes, and may be in danger of flopping once again, especially in Spain where the IBEX is tumbling by over 3% to a fresh 3 year low. Still, the Spanish 10 year has managed to stay under 6% and is in fact tighter on the day in the aftermath of the repeatedly irrelevant Bill auctions from yesterday, when the only thing that matters is tomorrow's 10 Year auction. Probably even more important is that the BOE now appears to have also checked to Bernanke and no more QE out of the BOE is imminent. As BofA summarizes, "The BoE voted 8-1 to leave QE on hold at their April meeting: a more hawkish outturn than market expectations of an unchanged 7-2 vote from March. Adam Posen - the most dovish member of the BoE over the last few quarters - took off his vote for £25bn QE, while David Miles judged that his vote for £25bn more QE was finely balanced (less dovish than his views in March)." Even the BOE no longer know what Schrodinger "reality" is real: "The BoE judged that developments over the month had been relatively mixed, with a lower near-term growth outlook, but a higher near-term inflation outlook. However, they thought that the official data suggesting very weak construction output and soft manufacturing output of late were “perplexing”, and they were not “minded to place much weight on them”." Naturally, this explains why Goldman's Carney may be next in line to head the BOE - after all to Goldman there is no such thing as a blunt "firehose" to deal with any "perplexing" issue. Finally, the housing market schizophrenia in the US continues to rule: MBA mortgage applications rose by 6.9% entirely on the back of one of the only positive refinancing prints in the past 3 months, which rose by 13.5% after a 3.1% drop last week. As for purchases - they slammed lower by 11.2%, the second week in a row. Hardly the basis for a solid "recovery."
Full recap from BofA:
Market action
Following US markets higher, Asian equity markets enjoyed a solid rally overnight with the MSCI Asia Pacific Index rising 1.1%. The biggest rally was in the Japanese Nikkei which rose 2.1% on speculation that Japan might take new measures to spur its domestic economy. The Shanghai Composite was a close second up 2.0% while the Hang Seng was a distant third up 1.1%. The Korean Kopsi enjoyed a solid 1.0% gain while the Indian Sensex only rose 0.2%.
After two straight days of gains in Europe, the rally appears to have petered out. Investors are tempering their expectations ahead of tomorrow's 10-year bond auction in Spain. A poor auction measured either by weak demand or higher than expected yields on the new issues should cause spreads on peripheral debt to widen and send equity markets lower. In the aggregate, European equities are down 0.3%. At home, futures are pointing to a 0.1% lower opening for the S&P 500.
In bondland, Treasuries are flat across the curve. The 10-year Treasury yield is currently 2.00%. Except for the UK, yields are falling across Europe. In the ten-year sector, German bunds are down 1bp to 1.74% while in Spain yields are 9bp lower at 5.74%. After the more hawkish than expected BoE minutes today, the UK's gilt is up 4bp to 2.13%. Absent a major shock ahead of the May BoE meeting, the market is now expecting an end of asset purchases to be confirmed.
The dollar is rallying sharply in the currency markets. The DXY index is up 0.4%. WTI crude oil is unchanged at $104.23 a barrel and gold is down $3.15 an ounce to $1,646.43.
Overseas data wrap-up
Yesterday, both the Bank of Canada (BoC) and the Chilean central bank (BCCh) left their respective monetary policy rates unchanged. The BoC left its benchmark interest rate unchanged at 1.00% for the 13th consecutive month. The statement from the bank was relatively hawkish implying rate hikes will be likely in the near term due to reduced slack in the economy and firmer underlying inflation. In Chile, the central bank left its benchmark interest rate unchanged at 5.00% for the third consecutive month. The tone of the accompanying statement was slightly more dovish than the prior month's; however, unlikely consensus our LatAm team expects no rate hikes in 2010 as inflation expectations are well anchored and global risks remain high.
Today, the central bank of Sweden, the Riksbank, left its monetary policy rate unchanged at 1.50%. The Riksbank is likely in a wait and see mode as it watches for risks to the country's growth outlook due to the recession in the euro area.
In the UK, the labor market improved marginally as the ILO 3-month unemployment rate fell 0.1pp to 8.3% from 8.4%. Consensus was looking for no change. Despite the drop in the unemployment rate the rise in average weekly earnings over that same time period was slightly less than expected up only 1.1% instead of the expected 1.2% increase. Below trend growth of just 0.6% this year will help push up the unemployment rate higher and keep earnings weak. That will cause consumer spending to underperform in the UK growing just 0.2% yoy in 2012.
Today's events
There is nothing on the economic calendar today.
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http://www.bloomberg.com/news/2012-04-17/spain-s-surging-bad-loans-cast-new-doubts-on-bank-cleanup-plan.html
Surging Bad Loans Cast New Doubts on Bank Cleanup
By Charles Penty - Apr 18, 2012 6:52 AM ET
Spain’s surging bad loans are spurring doubt on whether the government can persuade investors that it can clean up the country’s banks without further damaging public finances.
Non-performing loans as a proportion of total lending jumped to 8.16 percent in February, the highest level since 1994, from less than 1 percent in 2007, according to Bank of Spain data published today. The ratio rose from 7.91 percent in January as 3.8 billion euros of loans soured in February, a 110 percent increase from the same month a year ago. That takes the total credit in the economy that the regulator lists as “doubtful” to 143.8 billion euros.
Spain's Prime Minister Mariano Rajoy speaks during the opening of the plenary session of the World Economic Forum in Puerto Vallarta, Mexico, on April, 17, 2012. Photographer: Ronaldo Schemidt/AFP/Getty Images
April 18 (Bloomberg) -- Simon Derrick, chief currency strategist at Bank of New York Mellon Corp., talks about the Spanish banking system. Derrick also discusses the outlook for the yen with Linzie Janis and Owen Thomas on Bloomberg Television's "Countdown." (Source: Bloomberg)
April 18 (Blooberg) -- Henrik Drusebjerg, a senior equity strategist at Nordea Bank AB, discusses the European debt crisis and investing in the energy industry. He speaks from Copenhagen with Maryam Nemazee on Bloomberg Television's "The Pulse." (Source: Bloomberg)
Mariano Rajoy, Spain's prime minister, is battling to convince investors Spain’s finances are under control. Photographer: Alessia Pierdomenico/Bloomberg
Visitors view the city skyline Madrid, Spain. Spain’s deteriorating economy means other classes of loans apart from those linked to real estate are also at risk of going sour. Photographer: Angel Navarrete/Bloomberg
Defaults are rising and credit is shrinking at a record pace as 24 percent unemployment corrodes the quality of loans built up in the country’s credit boom and saps the appetite of banks to make new ones. Doubts about the extent of Spain’s non- performing loans problem is hurting bank stocks and driving up the government’s borrowing costs on investor concern that the expense of propping up ailing lenders may add to the debt burden.
“One of our concerns in Spain is to what extent contingent liabilities could pass to the central government,” saidAndrew Bosomworth, Pacific Investment Management Co.’s Munich-based head of portfolio management. Non-performing loans “will have to rise when you take into account the unemployment rate and what’s happening with the economy,” he said.
er Mariano Rajoy is battling to convince investors Spain’s finances are under control after his refusal last month to meet deficit targets set by the European Commission. By seeking to cut the budget deficit to 3 percent of gross domestic product from 8.5 percent over two years, he risks driving bad loans as the deepest austerity measures in three decades push the economy back into a recession.
“A lot of our doubts are based on the grounds that non- performing loans should increase,” said Tobias Blattner, an economist at Daiwa Capital Markets in London, adding that he expects house prices still may fall by as much as 20 percent. “That could make a further hole in balance sheets of the banks.”
Bank shares extended declines today after the bad-loan figures were released. Banco Santander SA (SAN), Spain’s biggest lender, fell as much as 3 percent and CaixaBank SA, the fourth largest, dropped as much as 3.3 percent.
Bonds Rise
Spanish bonds rose for a second day as the extra yield that investors demand to hold 10-year debt instead of German bunds narrowed to 404.5 basis points from 413.7 basis points yesterday.
Rajoy’s government announced plans in February to force banks to take their share of costs of 50 billion euros ($65.6 billion) for building provisions and capital to make them recognize losses on real estate piled up on their balance sheets during the country’s housing bust.The Bank of Spain said late yesterday that lenders will take a total of 53.8 billion euros to meet the new requirements, including 29.1 billion euros in provisions and 15.6 billion euros to create capital buffers. While most companies would be able to comply “without major difficulty,” the central bank would tighten its vigilance over lenders that may struggle to meet the requirements, it said.
Provisions
The plan implies a loss ratio for those assets of about 25 percent based on the fact that banks have already made provisions of 50 billion euros against total real estate risk of 340 billion euros, said Daragh Quinn, an analyst at Nomura International in Madrid.
Depending on how much the economy contracts and asset prices fall, further provisions of as much as 40 billion euros may be needed, said Daiwa’s Blattner.
“In light of the bleak profitability outlook for the Spanish banking sector, we are concerned whether banks will be able to put aside the provisions the government has requested,” he said.
So far the government’s efforts to bolster confidence in the banks has focused on making them recognize losses linked mainly to real estate. Banco Espanol de Credito SA (BTO), a Spanish consumer bank controlled by Banco Santander SA, said April 12 that first-quarter profit fell 88 percent as it made provisions to cover about half of the 1 billion euros in real estate charges the company must make this year to comply with the government’s order.
Other Loans
Still, Spain’s deteriorating economy means other classes of loans apart from those linked to real estate are also at risk of going sour, Blattner said.
The Bank of Spain, which says banks are burdened with about 176 billion euros of “troubled” real estate assets, lists about 21 percent of the 298 billion euros of loans linked to property developers as non-performing. The bad-loans ratio for industry excluding construction has jumped to 5.4 percent from 1 percent in 2007, according to the Bank of Spain.
“The 50 billion euros of extra capital looks like it’s in the ballpark,” said Bosomworth, referring to the government’s cleanup plan. Still, the “balance of risks” suggests more funds may be needed given what’s happening in the economy, he said.
ECB Stability Facility
One option open to Spain should it need to recapitalize banks further would be to take funds from the European Financial Stability Facility, the euro-area’s temporary bailout fund, said Daiwa’s Blattner.
That would come with a “certain stigma attached” because it may signal the government has lost market access, he said. Spain can weather its troubles without a bailout and widening bond spreads are a “warning shot” from investors, Norbert Barthle, the parliamentary budget spokesman for German Chancellor Angela Merkel’s Christian Democratic Party, said by telephone yesterday.
Spain has managed to stop the cleanup of the banking system from hurting government finances by making the industry absorb the cost by contributing more to the deposit guarantee fund. The fund has helped to finance the state’s sale of failed lenders including Caja de Ahorros del Mediterraneo and Unnim by covering future losses for buyers.
Bankia Concerns
To be sure, investors have better information on the risks facing Spanish banks as the industry has shrunk and the Bank of Spain has made them unveil their real estate exposure, said Nomura’s Quinn.
Bankia, a grouping of seven former savings banks with about 300 billion euros in assets, has become a focus of analyst concerns about Spain’s banking system.
Deutsche Bank AG analyst Carlos Berastain said in an April 11 he was downgrading Bankia to sell from hold because of its “very low” profitability and the weak solvency position of its parent company. While Spanish banks face their “toughest year to date” in terms of profitability, 2012 also may be the “turning point” toward earnings that are more normal in 2013 on reduced needs to make impairments, Berastain wrote.
“Everyone, even the Eskimos, knows that bad loans in Spain are going up,” said Antonio Ramirez, a banking analyst at Keefe, Bruyette & Woods in London. “The sovereign is affected by the view in the markets that the banks are in difficulties and in a circular loop the banks are affected by the market view that the sovereign is weak.”
To contact the reporter on this story: Charles Penty in Madrid at cpenty@bloomberg.net
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http://www.bloomberg.com/news/2012-04-17/spanish-banks-gorging-on-sovereign-bonds-shifts-risk-to-taxpayer.html
Spanish, Italian and Portuguese banks are loading up on bonds issued by their own governments, a move that shifts more of the risk of sovereign default to European taxpayers from private creditors.
Holdings of Spanish government debt by lenders based in the country jumped 26 percent in two months, to 220 billion euros ($289 billion) at the end of January, data from Spain’s treasury show. Italian banks increased ownership of their nation’s sovereign bonds by 31 percent to 267 billion euros in the three months ended in February, according to Bank of Italy data.
The Gran Via, Madrid. Photographer: Angel Navarrete/Bloomberg
April 18 (Bloomberg) -- Simon Derrick, chief currency strategist at Bank of New York Mellon Corp., talks about the Spanish banking system. Derrick also discusses the outlook for the yen with Linzie Janis and Owen Thomas on Bloomberg Television's "Countdown." (Source: Bloomberg)
In Spain, stronger banks such as Banco Santander SA, the country’s largest lender, can handle losses from their sovereign holdings. Photographer: Denis Doyle/Bloomberg
German and French banks, meanwhile, have cut holdings of those countries’ bonds, as well as Irish and Greek debt, by as much as 50 percent since 2010 in some cases. That leaves domestic firms on the hook for a restructuring such as Greece’s last month and their main financier, theEuropean Central Bank, facing losses. Like Greece, governments would have to rescue their lenders with funds borrowed from the European Union.
“The more banks stop cross-border lending, the more the ECB steps in to do the financing,” said Guntram Wolff, deputy director of Bruegel, a Brussels-based research institute. “So the exposure of the core countries to the periphery is shifting from the private to the public sector.”
ECB Lending
The jump in sovereign-debt holdings by Spanish and Italian banks has been fueled by the ECB’s 1 trillion-euro long-term refinancing operation, or LTRO, initiated in December, to provide liquidity to the region’s lenders. Encouraged by their governments to take the money and buy bonds, banks borrowed 489 billion euros on Dec. 21 and 530 billion euros on Feb. 29.
For lenders in so-called peripheral countries -- Spain, Portugal, Ireland, Greece and Italy -- profit also was an inducement: They could borrow at 1 percent to buygovernment bonds yielding between 6 percent and 13 percent.
Lenders in those five countries have taken about 715 billion euros from the ECB through emergency programs, including the LTRO, according to the most recent data provided by the central banks of those nations. Irish and Greek lenders have borrowed an additional 83 billion euros from their central banks, using collateral that isn’t accepted by the ECB.
The bond purchases helped bring down borrowing costs at first. The yield on Spain’s benchmark 10-year bond dropped below 5 percent in January from more than 6.5 percent in November. Concerns that a deepening recession will lead the government to default on its bonds have driven yields back to 6 percent and the cost of insuring Spanish debt to levels that prompted other European countries to seek bailouts.
Ireland, Portugal
Irish banks increased ownership of that nation’s sovereign debt by 21 percent in the three months ended in February, according to the Central Bank of Ireland.
Government-bond holdings by Portuguese banks jumped 15 percent to 30 billion euros in the same period, according to ECB data. While the central bank doesn’t provide a breakdown of the holdings by country, most debt sold by Portugal in recent months has been snapped up by its own lenders, according to two primary dealers who serve as middlemen in the sales and who asked not to be identified because the information isn’t public.
French and German banks bought the sovereign debt of other European countries last decade as the region’s financial sector became more integrated and interest rates declined. That process has been fragmented by the debt crisis.
Since 2010, banks in France and Germany have retreated, cutting lending to the governments of Spain, Portugal, Ireland and Greece 42 percent, according to data compiled by the Bank for International Settlements. Dumping Italian sovereign bonds began more recently, with German lenders reducing their Italian holdings 13 percent in the second and third quarters of 2011, BIS data show. French banks shrunk their holdings of Italian government debt about 25 percent in the third quarter.
Relief
While French and German banks lost money on Greece’s restructuring last month, a delay of more than a year allowed a similar shift of risk to the public sector. When the exchange took place, the debt relief was capped at 59 billion euros because fewer bonds were held by the private sector, including banks outside the country. If Greece had defaulted in 2010, the reduction could have been as much as 232 billion euros.
Greece had to borrow an additional 49 billion euros from the International Monetary Fundand the EU to recapitalize Greek banks that couldn’t handle losses on their sovereign-debt holdings during the restructuring.
“If there’s a private-sector restructuring of Portuguese sovereign debt, then Portugal’s banks will need a bailout like Greek banks did,” Dimitri Papadimitriou, president of the Levy Economics Institute at Bard College in Annandale-on-Hudson, New York, said in an interview.
Regulatory Pressure
In Spain, stronger banks such as Banco Santander SA (SAN), the country’s largest lender, can handle losses from their sovereign holdings, while weaker savings institutions stung by soured real estate loans will need help, Papadimitriou said. Italian banks probably are buying more of their country’s debt because they can sell it to retail customers who still have an appetite for the securities, he said.
Lenders in peripheral countries are facing pressure from regulators and the ECB to buy government debt, according to two executives and a banking supervisor who asked not to be identified because the discussions are private. German and French regulators, meanwhile, have said they asked banks to cut lending to those nations.
“As German banks reduce their exposure and the domestic banks pick up the slack, credit is becoming national again,” said Michael Dawson-Kropf, a Frankfurt-based senior director at Fitch Ratings. “But in most cases, like Ireland, there aren’t enough domestic deposits to do that, so they need external financing.”
‘Backdoor Exposure’
That’s when the ECB and other public lenders step in, creating a “backdoor exposure” for wealthier nations such as Germany, France and the Netherlands, said Sean Egan, president of Egan-Jones Ratings Co. in Haverford, Pennsylvania.
“Private-sector banks offloading their obligations to the public sector doesn’t get the German taxpayer off the hook,” Egan said. His firm downgraded Germany’s sovereign credit to A+ in January, four levels below the top rating, amid worries that the country will have to rescue other EU nations.
Before the 2008 crisis, banks in Ireland held almost no Irish government debt. They owned about 20 percent of that nation’s sovereign bonds as of Dec. 31, according to data compiled by the Washington-based Institute of International Finance. In the meantime, the Irish government has pumped 62 billion euros into its banks to cover losses on real estate loans and now owns most of the banking system.
Tied at Hips
“The Irish government and the banks are tied at the hips,” said Constantin Gurdgiev, a finance lecturer at Trinity College in Dublin. “Banks get money from the government, which turns around and borrows from the banks. But how long can this game go on?”
Portuguese banks’ ownership of that country’s sovereign bonds jumped to 12 percent at the end of 2011 from 5 percent in 2007, according to IIF data. Spanish banks’ share of their government’s debt rose to 35 percent from 24 percent.
Meanwhile, foreign banks’ holdings of Spanish government debt dropped to 64 percent at the end of September from 74 percent a year earlier, IIF data show. In Ireland, the share declined to 23 percent from 27 percent, and in Portugal it fell to 19 percent from 26 percent.
‘National Fragmentation’
“This national fragmentation of credit is beginning to undo the financial integration that was one of the biggest benefits of the monetary union,” said Hung Tran, deputy managing director of the IIF, which represents more than 400 banks worldwide. “It’s not reducing the vulnerability of the banking system to the sovereign risk either.”
The ECB’s emergency-lending programs can provide indirect support for governments, “but only if sovereigns are perceived by markets to be going in the right direction,” David Mackie, chief European economist for JPMorgan Chase & Co., wrote in an April 10 note to investors.
“If there are doubts about the path ahead for sovereigns, then longer-term financing for banks will not necessarily provide much support as domestic banks may be reluctant to buy and other holders of sovereign debt may be keen to sell,” wrote Mackie, who is based in London.
Spain, Portugal, Italy, Ireland and Greece relied on banks in countries with stronger economies to finance their budget deficits for a long time, said Jan Hagen, a banking professor at Berlin’s European School of Management and Technology. With those lenders now weakened by losses and pressed to reduce risk, governments will struggle to finance themselves as the rest of the world stays away, he said.
“Governments loved the banking sector’s growth in the last two decades because they could borrow so easily,” Hagen said. “It was like a drug addiction. But like all addictions, it probably will end in a bad way.”
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