Another Funding Hurdle Cleared, But Doubts Remain; France and Spain Have Successful Debt Auctions

Bloomberg  reports on today's debt auctions by France and Spain:


„France sold 8 billion euros ($10.5 billion) in debt today as risks linked to the French presidential election drove up yields.

The amount sold was at the maximum target set by Agence France Tresor, the country’s debt-management body. France sold 2.7 billion euros of benchmark five-year debt at an average yield of 1.83 percent, up from 1.78 percent on March 15.

Earlier today, Spain sold 2.54 billion euros in two- and 10-year bonds, slightly more than the maximum target of 2.5 billion euros. Borrowing costs rose as Spanish Prime Minister Mariano Rajoy’s struggles to meet deficit targets.

Scrutiny of both countries is increasing amid the fading effect of the European Central Bank’s longer-term refinancing operation, which injected about 1 trillion euros of liquidity into the region’s financial system. The yield on Spain’s benchmark 10-year bond has jumped about 1 percentage point since the beginning of March to above 6 percent, while the yield on the equivalent French debt has gained more than 10 basis points with Socialist Francois Hollande leading in election polls.“

(emphasis added)

So you can see, Hollande is making the markets nervous as well – which should be no surprise. We do however believe that he will turn out to be a 'good soldier' once he's in power, regardless of his rhetoric. By this we don't meant hat he won't pursue his socialist agenda – but that all his talk about wanting to 'renegotiate the fiscal compact' and altering the manner in which the euro-group deals with the crisis will turn out to have been so much hot air. Once he's in a position to rock the boat, he is unlikely to actually rock it. Still, one should keep an eye on France. Its economy is on shaky ground and its public debt is vast and growing.

As to Spain, the focus on its debt auctions is perfectly understandable when considering the following chart:





Spain's debt rollovers, 2011 to 2021. As can be seen, 2012 is the year where the  bulk of the country's government debt matures and needs to be rolled over – click chart for better resolution.



Quite a bit of the debt rollovers this year has already been achieved with the help of the ECB's LTROs, but from here on out, every new debt auction will be viewed with great apprehension.


NPL's of Spain's Banks Become a Focus

Yesterday Scott Barber of Reuters posted a long term chart of Spain's NPL's (non-performing loans) with an overlay of the unemployment rate. As might be expected, the two data series correlate very well. Before we get to the chart, the reason why he posted it was probably this news item: „Spain banks' bad loans highest since October 1994“. The article contained the following tidbits:


„Spanish banks' bad loans rose to their highest level since Oct. 1994 in February, to 8.2 percent of their credit portfolios, Bank of Spain data showed on Wednesday, as the sector continues to battle sliding house prices and a looming recession.

Banks are facing a new wave of loan defaults as an economic crisis deepens and analysts say some may not survive as the government implements sweeping budget cuts that will only add to Spanish households' problems with repaying debt.

Non-performing loans increased by 3.8 billion euros ($4.99 billion) to 143.8 billion euros in February from the previous month. They totalled 7.9 percent of total debt portfolios in January.

That picture – driven by the collapse of a housing boom in the global financial turmoil of 2008 – is at the heart of problems for Spanish banks that have seen other institutions refuse to lend to them and forced some to rely on the European Central Bank for funding. Spain's unemployment rate is already the highest in the European Union and is expected to rise further – putting more pressure on consumers and households.

House prices also fell another 7.2 percent in the first quarter from a year earlier, according to the Spanish Public Works Ministry.“


(emphasis added)

The fact that the official house price indexes show a 7.2% decline in Qu. 1 is sobering indeed, given their tendency to understate the situation. This may actually be an example of Spain's banks 'running out of rug to sweep things under'. Here is Scott Barber's long term NPL chart:



Spain's NPLs and the unemployment rate. As can be seen, in the 1994 downturn, NPLs and unemployment peaked almost concurrently. Also, at present, NPLs seem to be lagging a bit – click chart for better resolution.



Now, we cannot comment on the banking practices that were in fashion in 1994. However, we do know that the current NPL data understate the true situation, quite likely by a large amount. Below is a chart by BarCap that dis-aggregates the NPLs, as well as a selection of key Spanish housing data:



 Click chart for better resolution.



As can be seen from this disaggregation of Spain's NPLs, the bulk of the growth in NPLs was in the loans to property developers and construction firms. However, household NPLs have remained static or even declined slightly since 2009. This appears not very credible in view of the soaring unemployment rate:



Key Spanish housing data: Prices from various appraisers, the rate of change in prices, and affordability and sales data – click chart for better resolution.



In light of the above it is not surprising that Spain's prime minister Rajoy is among those pushing for a change to the EFSF's remit. As reported in German news magazine 'Der Spiegel', Rajoy is pushing for the EFSF (and by implication its successor, the ESM) to be allowed to support banks directly. The ECB is also pushing for this, as it hopes to be relieved a bit from its bank bailout duties. This has led to a new dispute within the euro-group, as Germany is resolutely opposed to such an alteration of the EFSF's powers.


“With an eye on the growing banking crisis in southern Europe, particularly in Spain, an increasing number of goverments as well as senior represenatives of the European Central Bank are pleading for the European Union's temporary euro backstop fund to be used to provide financial institutions with direct assistance.

Sources familiar with the discussions told theSüddeutsche Zeitung that the parties would like to see the criteria used by the European Financial Stability Facility (EFSF) to allocate aid be relaxed to include financial institutions in the event they represent a greater problem than a country's government finances. So far, this aid has been paid to governments, which in turn provided some forms of assistance to beleagured banks.

Such a move would enable the temporary euro-zone rescue fund, the European Financial Stability Facility (EFSF), to directly transfer money to these banks, bypassing national governments.

Süddeutsche reports that the primary supporter for the calls is the Spanish government of Prime Minister Mariano Rajoy, which is having increasing difficulty raising money on the markets to fill the country's budget shortfall. Relaxing the rules could help ease the burden of the banking crisis his government faces and it would enable Spain's comparably low debt-to-GDP ratio to remain constant. In addition, it would mean that his country wouldn't be forced to implement strict savings and reform measures that are stipulated by the rescue fund in exchange for aid. As some observers have noted, austerity measures appear to be contributing to Spain's slide into recession.”


As 'Der Spiegel' notes, it all sounds fine, except for one thing: there will be a loser in this proposed new arrangement, and his name is Germany:


“But it would also entail a number of losers — namely the most important EFSF donor countries, led by Germany, because they would no longer be able to force countries obtaining the aid to push through reforms. In the event of a bank's collapse, the money those countries had lent would also be lost.

In Berlin, German officials have firmly rejected the proposal. "Spain doesn't need an aid program, and if it were to need one, then only under the known conditions," a government source told the newspaper.”


(emphasis added)

German politicians are understandably reluctant to expose Germany to this added risk – even while they continue to maintain that nothing bad is going to happen to Spain anyway.


No Help On the Horizon – Yet

While Berlin's political elite appears oddly convinced that Spain won't need any aid, a growing number of market observers and economists believes otherwise – for many  a bailout of Spain is no longer a question of 'if', but of 'when'.


“Prime Minister Mariano Rajoy has repeatedly said Spain doesn't need or want an international bailout, and the European Union, which along with the IMF has already rescued Greece, Ireland and Portugal, also dismisses such talk.

But economists believe that Spanish banks will have to turn to the euro zone's rescue fund, the European Financial Stability Facility (EFSF), for help in covering losses caused by a property market crash which has yet to end.

Likewise, investors are fretting about how Rajoy's centre-right government can enforce deep austerity while reviving a recession-bound economy at the same time. "They're going to need EFSF money to recapitalize the banking sector," said Carsten Brzeski, a senior economist at ING in Brussels. "I think we'll only see a real end to the Spanish misery if the real estate market stabilizes."

Madrid is likely to hold out for some time. "The underlying picture in Spain is dramatic, but is it dramatic in the way that it needs a bailout package tomorrow? No," Brzeski said. "But if you look ahead, let's say the next six months, I would not be surprised if they (the banks) have to get some kind of European support."

Market concerns about the euro zone's fourth largest economy have deepened in the past week. Yields on the government's 10-year bonds, which reflect the risk investors attach to owning Spanish debt, have risen above 6 percent, a level that has proved a trigger point for other troubled euro zonecountries.

At the moment the EU is backing Madrid. Jean-Claude Juncker, who chairs the Eurogroup of euro zone finance ministers, said Spain was taking the necessary steps to get its economy back on track, despite a recession and unemployment at 24 percent.

"I don't think Spain will need any kind of external support," Juncker said. "I would like to invite financial markets to behave in a rational way. Spain is on track."

German Finance Minister Wolfgang Schaeuble also rejected comparisons with countries which are already on bailout programs. "The fundamental data in Spain is not comparable to those in the countries that are under a program," he told Reuters. "Spain needs to work to win confidence, however, if the positive developments are to continue."


(emphasis added)

We have news for Messrs. Juncker and Schäuble:

A) we have heard it all before;

B) the financial markets are behaving oddly rationally w.r.t. Spain, by beginning to price in the growing likelihood of a bailout and

C) Spain's fundamentals are most definitely comparable to some of the fundamentals in the countries that are already under the bailout umbrella. For instance, the huge real estate bubble and its subsequent collapse is very similar to what happened in Ireland. Due to its size Spain may be able to withstand the consequences a bit longer, but essentially the problem is the same: the real estate bubble and its demise has rendered the banking system insolvent.

Reuters also mentions what we have long ago dubbed the 'moving target problem' – one simply can not assess how bad the situation of the banking system is until one actually knows how big the losses in the real estate sector will ultimately become:


“One of the critical "unknowables' for Spain is just how bad a situation its banks are in. The Spanish housing market, once a driver of the economy, has been in turmoil for more than four years, but prices still haven't fallen as much as economists think is needed to squeeze the air out of the bubble.

Only when prices have bottomed will assessors be able to calculate how just much bad mortgage debt is sitting on the banks' balance sheets, and therefore how much extra capital the sector requires to return it to health.

"Prices have dropped by about 15-20 percent from peak to now and they will probably have to drop another 15-20 percent before they reach bottom," said Brzeski. He estimates Spanish banks may need as much as 80 billion euros of extra capital once all bad mortgage debt is accounted for.

In a paper published this week, Daniel Gros and Cinzia Alcidi of the Centre for European Policy Studies estimated that the total accumulated overhang in the Spanish property and construction sector is more than 380 billion euros – equivalent to 37 percent of GDP.”


(emphasis added)

In the meantime, Bundesbank chief Jens Weidmann has joined those ECB governing council members who believe that the SMP should not be reactivated to help Spain out at this juncture. It is quite funny how he dismisses Benoit Coeure's statement of last week regarding the possibility of employing the SMP to stop the rout in Spain's bond market:


Spain should take a rise in its bond yields as a spur to tackle the root causes of its debt woes, not look to the European Central Bank to help by buying its bonds, European Central Bank policymaker Jens Weidmann told Reuters.

Weidmann, who has led a push by some policymakers from core euro zonecountries for the bank to begin planning an exit from its crisis mode, said no ECB policymakers favored using the bank's bond-buying plan to target specific interest rates on sovereign bonds, and ECB board member Benoit Coeure was simply stating a fact by saying last week that the program still existed.

In a wide-ranging interview, Weidmann, who turns 44 on Friday, also said he saw no reason to discuss a third LTRO, the funding instrument with which the ECB has pumped over 1 trillion euros into financial markets since late last year.”


(emphasis added)

In other words, Spain remains alone with its troubles for now. The markets continue to express their misgivings accordingly – market participants just seem not to believe the Junckers and Schäubles of this world, and who can blame them? After all, assurances by various eurocrats regarding the sustainability of shaky debtors have been nothing but contrary indicators from day one of the crisis.



Spain's 10 year government bond yield: after today's successful debt auction, it has reversed up again and resides now just below 6% – click chart for better resolution.



The IBEX stock index in Madrid keeps crashing to new lows – click chart for better resolution.



5 year CDS on Italy, Greece, Portugal and Spain from yesterday – today CDS on Spain rose back to the 495 basis points level, only a smidgen below the all time high established last week – click chart for better resolution.



Addendum: Trading in YPF Shares Resumes

After a trading halt following the seizure of YPF by the Argentine government, trading in its shares resumed yesterday. As Bloomberg reports:


“Argentina’s largest oil company, plunged the most on record in Buenos Aires and New York after the government rejected Repsol YPF SA (YPF)’s demand for $10.5 billion in compensation for the unit’s nationalization.

Shares fell 29 percent to 77.05 pesos in Buenos Aires, the most since 1994 when Bloomberg records begin. The company’s American depositary receipts plunged a record 33 percent to $13.12 as trading resumed today after a halt imposed April 16.

Argentina’s Deputy Economy Minister Axel Kicillof rejected Repsol’s compensation demand for its YPF unit and said the government will rely on “solid data” to value its takeover of 51 percent of its shares. President Cristina Fernandez de Kirchner moved to seize YPF this week, saying the company hasn’t invested enough in the South American country.

“Nobody knows how much the government plans to pay for the shares and that’s making people nervous,” Juan Jose Vasquez, an analyst at Bull Market Brokers SA, said by telephone from Buenos Aires. “Also, once the company is controlled by the state, its purpose won’t be maximizing shareholder value anymore.”


“The numbers that some executives talked recklessly about in valuing the company will be revised as we review the fine print and the secret information managed by the company,” Kicillof said, adding that YPF’s 2011 profit of 5.3 billion pesos ($1.2 billion) won’t be used for dividends and may be reinvested.


It seems hardly necessary to comment on this. Obviously the government plans to pay as little as possible and since many years may pass before any claims actually get paid, there will be plenty of time to run the company into the ground. We already have Venezuela's example (Huge Chavez was by the way the lone foreign politician praising the YPF seizure) where oil production has been in free-fall ever since the oil industry has been nationalized. The fact  that the only praise for Mrs. Kirchner's actions came from Chavez speaks for itself as it were.

Here is a chart of the YPF ADR that trades in New York including the moves since the resumption of trading:



YPF-Repsol shares plunge again after trading resumes – click chart for better resolution.



As we have pointed out yesterday, this will increase the losses of several of Spain's banks even more, as the four biggest YPF-Repsol shareholders are Spanish banks.





Charts by: Reuters/Scott Baber, Bloomberg, Stockcharts, BarCap, BigCharts,  Der Spiegel



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