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Monday, 21 April 2014

Germany 2008

Germany is at heart of Europe. It is a metaphor that encapsulates the importance of the country, which sits at the centre of the continent, but also the fundamental interrelationship between the fortunes of individual country with the continental collective. As Europe has suffered the global virus of disappearing liquidity and recessionary fears, so the beating of the heart has grown somewhat fainter. But it beats on.

The healthiest component of this body politic (or should it be body economic?) remains the vibrant pfandbrief market, which stubbornly refuses to acknowledge any credit crisis, and seems more like a pace-maker than a human organ. How much longer this market can defy the environment it inhabits is a question of much debate, with some arguing it is a bastion of investor irrationality.

Also showing impressive resilience, though markedly closer to consensus, is the sovereign market. The German government is one of the strongest borrowers in Europe, a status that has been reaffirmed by the troubles in the financial markets and the subsequent flight to quality. Sovereign spreads had been harmonising throughout Europe before the credit crunch, but that trend looks to have reversed with the non-core European markets increasingly viewed as a riskier bet than the reliable Germans.

It is a similar story in the niche equity market of renewable energy, which Germany has made its own in recent years. Any suggestion that other countries might compete in this sector, for which many have high hopes – inversely proportional to expectations regarding climate change – has been all-but snuffed out.

Neither has the news from the loan market been too depressing, considering expectations, which at least contemplated melt-down. This, however, was averted as bankers and borrowers instead adjusted to a new reality in pricing.

Even leveraged finance, perhaps the most obvious casualty of deteriorating credit sentiment, has not yet experienced financial Armageddon. In line with much of the rest of Europe, the biggest deals are no longer being done, and terms have become stricter, but both these developments are seen, at least in some quarters, as a return to rational norms – business as usual. Deal sizes could not grow at seemingly exponential rates forever. More importantly, the terms on which leverage was supplied were getting, for many, too slack, bearing no reality to the underlying risk or the quality of the business under consideration. Now the only question is whether the market responds to these two divergences proportionally: will investors continue to shun big deals, regardless of their quality; and will investors apply more rigorous due diligence to the smaller deals, as they have the bigger ones?

Perhaps the most ailing aspect of the German financial market is its disappointing property derivatives market. Following its success in the UK there were high hopes that this, one of the larger real estate markets in Europe, could follow. That has proved beyond Germany’s reach, with some blaming a lack of volatility and others unreliable data. Perhaps in time problems can be weeded out to allow property derivatives to flourish but in this sector, at least, it is seen as unlikely to ever be Europe’s leading light.

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