Tuesday, 18 September 2018

On the euro and knitting fog

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Anthony Peters on the ECB’s bind if the euro weakens; the Austrian FRN and BoE securitisation moves.

You’ve hardly had time to blink and it’s June. In 29 days half of 2014 will be gone and in some respects it feels as though it hasn’t really got started yet. Old market wags will, however, be aware that more than half the year is over when you discount out the long summer lull and the run-up to Christmas so if you’re still waiting for the year to get going, you’ve missed it.

A large part of the feeling of unfulfilled potential lies in the flip-flopping of markets as they try to prepare for the impending tightening cycles but with no clear idea of when they are to set in. The Fed has made it clear that it is still on hold but how to correctly trade a market when it’s trying to discount a rise in rates 10-12 months hence? In the UK, the battle for the heart and soul of central bank policy is being carried out in public which is turning the Old Lady into a bit of a soap star.

 …the moment the € comes lower, the German export economy goes back into overdrive and the € goes straight back up again 

No such worries in the eurozone where the talk is not of tightening but of further easing and this week will most probably kick off as the last one ended, namely with the market positioning itself for the event but still with a horrid sense in the base of the stomach that the boys in Frankfurt will remain capable of either doing the unexpected or of not doing the expected. They might well feel tempted to remind markets that they are not to be pushed about by some spurious, trading-floor led “consensus”. They might but I don’t think they will.

Since peaking at US$1.3925 in early May, the € has fallen back to dip last week to just below US$1.3600 which is no more than a cent above both the one-year and five-year average parity. Although the talk is of trying to weaken the currency further, we have no sense of what the ECB would think of a weaker € might actually being worth. Not only that but the moment the € comes lower, the German export economy goes back into overdrive and the € goes straight back up again. Sometimes it must, to the ECB, feel like they’re knitting fog.

Austrian floater

My eye was drawn last week to a €2bn Republic of Austria 5 year FRN. I’m not quite sure who would want to own a sovereign FRN at Libor-4bps merely a week before rates are set to fall further but when it comes to opportunistic borrowing, the Austria debt management agency is in a class of its own. Older members of the supra/sovereign debt origination and syndication community will well remember the inscrutable “Herr Doktor Eder”, erstwhile head of the agency, who terrorised them for years and even I, a humble bond salesman at BNP had my run-in with him when I wrote a comment on how I thought he’d double-crossed the Austrian primary dealers by handing the initial syndication of a new Republic bond exclusively to non-Austrian banks. How, I wondered, could the Austrian banks be expected to make efficient two way prices to their domestic customers if they hadn’t been involved in the syndicate. In the event, the syndication was a flop, having been handled by the wrong lead managers at the wrong price. In my daily column at the time I somewhat ironically congratulated him for having spanked the market to the benefit of the Austrian tax-payer – he got some silly cheap money for them – to which he took serious umbrage.

I don’t think the new floater is in the same league but I do know that the Street is long the issue with next to no demand. Surely, in time, the central banks will take down the paper but in the meanwhile the leads and their friends are long a bond with negative carry. On the one hand the governments are hell-bent on making bank funding as expensive as they can, only to then step out through another door and stuff the Street with what looks to me like an inherently loss-making position. We might not be talking big bucks but in this environment every dollar, euro or pound counts

The BoE and securitisation 

Meanwhile, driving in this morning, I heard the Bank of England Deputy Governor Sir Jon Cunliffe speaking about the desirability of more securitisation by the banks. He urged for more to be done and in a more transparent fashion. The interviewing journo wondered how it could be that having, apparently according to him, caused the financial crisis, the Bank of England could be pushing for the market to be revived. I take issue.

It is not a matter of loans being securities but an issue of which ones are. Had central bank rates not been so low and had investors not been so yield hungry, then we might never had ended up with the sub-prime mortgage, consumer- and auto-loan markets. Although it is conventionally accepted that the tail wagged the dog, it should not be overlooked that the tail and the dog were already firmly attached to each other, nevertheless. Investment bankers, as greedy as they may be, are hard-wired to identify and fill demand, and not to create it. That peer group pressure will have every investor doing what the other is in order not to under-perform and that this behaviour naturally leads to the “originate to distribute” model is beside the point.

The problem is rarely to be identified at the beginning of the product life cycle  – it emerges at the end. It is as much up to the central banks and other regulators to prevent the toxic outcome as it is to the banks and the investors.

At the moment all is sweetness and light. Let’s see what happens, going forward. Personally, I shudder to think.

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