G3 Recap 7-15-11

Main Items:

  • U Michigan Confidence declined to 63.8 in July vs 72.2 exp and 71.5 prev.
  • US CPI was unchanged at 3.6% YoY in June as expected. The Core measure rose to 1.6% YoY as expected vs 1.5% prev.
  • Empire Manufacturing improved to -3.76 in Jul vs +5 exp and -7.79 prev.


  1. 5 fail in Spain, 2 in Greece, 1 in Austria. 1 German Landesbank refused to participate, so we can assume they failed horribly.
  2. 16 banks just passed, with a core tier 1 ratio of less than 6%:
  1. 7 in Spain, 2 each in Greece, Germany and Portugal, and 1 in Italy, Cyprus and Slovenia.
  1. Another 18 are below 7%.
  2. Note that the German bank could refuse to participate because Bafin allowed it to. As a result, the accuracy of the results is dependent upon how rigorously the various EU banking regulatory agencies vetted the numbers.
  3. The data from the sample of 90 banks (Dec. 2010) shows the aggregate exposure-at-default (EAD) Greek sovereign debt outstanding at EUR98.2 bn. Sixty-seven percent of Greek sovereign debt (and 69% of the much smaller Greek interbank position) is in fact held by domestic banks (about 20% refers to loans which are mostly guaranteed by sovereign). The aggregate EAD exposure is EUR52.7 bn for Ireland (61% held domestically) and EUR43.2 bn (63% held domestically) for Portugal. (pg 28)
  4. Scenario Definitions: Greece debt has haircuts of <30%, Portugal ~20%, Ireland ~20%. (pg 10)
  5. Final point: I didn’t see anything that shows haircuts to corporate periphery debt. This is partially because it is difficult to ascertain the ultimate country. Is a Greek bank owned by Soc Gen Greek or French? In any case, it is probably safe to assume that a Greek sovereign default will trigger Greek corporate defaults, a consequence (among many others) that is not included in the stress test.


  • Funding stresses are building again. The 3m forward, futures implied Libor-OIS spread is at the highs for the year and looks set to break higher: (Ironically on the same day WSJ runs an article about Libor losing relevance)

    1m T-Bill yields are still 0 or negative, so the stress is clearly coming from Europe. Periphery CDS were all sharply higher today, and the stress tests did not come close to alleviating contagion fears. If you haven’t already, it’s time to buckle down.

  • On the US debt ceiling:
    1) It appears that the Republican’s plan is to force a sharp fiscal tightening through the next election cycle. Given the current low levels of US growth, this is likely to push the US into a recession, and allow the Republicans to win more seats in congress and potentially the presidency in 2012.
    2) Republicans are not ‘conservatives.’ The balance of cuts vs tax increases on the table is something in the range of 75:25, or higher. A vast majority of US voters as well as economists also favor higher taxes. Bernanke also specifically advised against a sharp fiscal tightening. That Republicans continue to hold out against tax increases suggest that the party does not represent conservative or American interests.
    3) Given that this is essentially a party line vote, we can only hope that independent US voters can see through this charade in 2012. A single party in control of both the presidency and legislature has historically NOT been conducive to good policy making, but the alternative now looks worse. A side benefit is that it could potentially convince independent minded Republicans to vote independently. What a thought!

6 thoughts on “G3 Recap 7-15-11

  1. questions on yr interesting ‘Republican’s Plan’ in the US debt ceiling segment, point 1):

    if this ‘plan’ is really the way things will go, you have some indication on the timing of the next US recession?
    Surely this will happen then pre-november ’12 elections so in that scenario , we will first have a QE3 and then kick off into recession? Q1-’12?

    My guess is that this scenario is not at all priced in ( or fully priced in at least) in many markets, such as commods, FX, equity,etc.

    If the US indeed goes into double dip mode , China (with help of India/M.East) is the only economy left to prevent us from full blown global recession because Europe will still be in a fiscal and monetary clean-up mode with potentially a broken Euro in 2012.

    Which gets us to the G-2 model: only China and the US really matter.

    1. Hey PPK – that would depend on where the spending gets cut, but certainly by year end many indicators would be in recession territory, and the QE3 scenario plays out. However, the Democrats are very unlikely to agree to such a plan. It looks like the ‘do-nothing’ plan is going to get passed, and US voters will most likely blame Republicans for it.

      If the US does into a double dip, I actually think China won’t be able to do much to offset it. The lion’s share of recent Chinese growth comes from capital investments; Chinese private consumption represents less than 40% of GDP. If the US double dips, the Chinese trade balance will contract, and it will only be able to generate growth via additional liquidity increases. This could, ironically, push certain commodities higher despite global weakness. But on net, it seems unlikely China will be able to do much to offset US weakness in such a scenario.

      Let’s hope the US consumer pulls through.

  2. concur that its still the case to be high in cash with minimal risk unless that is defined tail risk specifically. europe will continue to step towards deflationary scenario. with fiscal expansion minimal, it seems more money printing this year seems possible.

    from a debt based fiat money system, we will just end up moving either directly to pure monetization or down the risk spectrum in terms of collateral. by that token, I really don”t know what cash to be “in”. the euro will still be around but just not sure of its value with an italian-economics-phd-from MIT-ex goldman-politically connected head of the ECB.

      1. i guess you get real destruction of value when there are no safe havens anymore.on a related issue, i like all the embedded optionality of buying german (residential) real-estate with running yields of 5% funded in euros at 3.5% locked for 10 years, if possible on a leverage basis.

  3. That sounds interesting… why aren’t banks jumping on his? Issue some pfandbriefs for an even lower funding rate?

    2yr BTPS, at 330bps over bunds, also look pretty good for a levered bet. Withholding taxes are annoying though, if you are an offshore entity.

Comments are closed.