Firewalls and the pain in Spain

5 min read

Anthony Peters, SwissInvest Strategist

Starting with Portugal, I think a bit of the recent enthusiasm for the rally in bonds and the plunge in yields might be dampened when one perceives that even the benchmark 9yr bond – there is no 10yr as the country has not issued into the public markets since the bail-out last year – is being quoted on no less than a two point bid/ask spread which on a bond with a 6.95 Macaulay duration already makes a 50bp yield differential before one has started. Optimists will therefore quote the offer yield and pessimists the bid yield when looking to underpin their arguments. However, such details aside, Portugal has ducked into the shade of its larger neighbour which is now clearly in the lime-light.

There will be plenty of people who will argue why it can’t… but there were enough of those who argued that Greece couldn’t and wouldn’t fail either.

I would not want to put the cart before the horses but the bullish rhetoric on the part of the eurozone authorities and the blatant refusal to broach the subject of that country’s financial difficulties remind be worryingly of the approach they took to Greece two years ago.

To some extent I understand them for not commenting on the fiscal position of a stressed member in any shape or form as it is a bit like being obliged to answer that most leading of questions: “Do you still beat your wife?” Can’t answer “Yes”, can’t answer “No”.

I pointed yesterday to Mutti Merkel’s vacuous comments about European unity, peace and the single currency unit and promptly got a call from a former officer in Her Majesty’s armed forces who, having spent a larger part of his military career posted in Germany, kindly reminded me that the first fifty years of European peace were guaranteed by the presence of significant NATO forces in Germany – most of them American – and that that particular alliance has no say on how what it created is now to be managed.

How tall is your firewall?

Spain might well be the elephant in the room. Today is the day on which the grand €800bn “Financial Firewall” is to be signed off in Copenhagen but what we still don’t know when trying to assess the efficaciousness of that so-called firewall is whether it is to be built between Portugal and Spain or between Spain and Italy. Fundamentals change significantly, depending on whether Spain is placed within that much talked about basket containing the aptly named basket cases or whether it is not. Anyhow, what does the number mean?

The total of all outstanding government debt of Germany is €1.089trn. In other words, the EFSF/ESM is supposed to be able to muster financial muscle of roughly 80% of all that Germany has borrowed and guaranteed. Where, for heaven’s sake is this money supposed to come from, should it be needed?

The Kingdom of Spain alone has outstanding obligations of just under €712bn which includes the €13bn which are committed to the bank recap fund. Should, perish the thought, Spain really become the next Greece, then Private Frazer would have been quite right when concluding “We’re all doomed!”. There will be plenty of people who will argue why it can’t… but there were enough of those who argued that Greece couldn’t and wouldn’t fail either.

Anyhow, at the moment nobody cares for all of this as quarter end is finally upon us over here and year end in Japan and a great one it has been for most asset classes, especially for developed markets’ equities. The quarter has given us two key themes – European sovereign debt crisis aside – namely the asset allocation out of bonds and into equities as well as an outperformance of developed stock markets over emerging ones. Q2 could see more of the same and it does, then the time to cut the last Dollar shorts is upon us. However, forecasting by the quarter has become a health and safety risk and I shall therefore desist from sticking my neck out any further than that.

Alas, it is that time of the week again. All that remains is for me to wish you and yours a happy and peaceful week-end. As holidays begin to break out here and there, may your seven years old sleep late and your seventeen year olds rise early and not the other way around.