An Important Week
I recall the early days of the Greek crisis when everyone asked why Greece was so important because it is such a small country. I responded that they had a total of $1.1 trillion in debt (sovereign, municipal, corporate, bank and derivatives) and I remember the blank stares. Now, if the newest bailout goes through, they will have more than $1.3 trillion in debt and while they could not pay the initial amount they certainly cannot pay any larger amounts so that it can clearly be stated that what is going on is the central banks of Europe and the ECB/EU lending money to Greece only as a conduit to pay back their own banking institutions. If you object to my math here recall that as the private sector involvement reduces the notational amount of sovereign debt but that the Greek banks are also going to be lent money so that the decrease in sovereign debt which excludes the ECB/EIB and IMF debt is not the headline bandied about in the press. So we have the hard date of March 9 when either the threshold for the exchange is met or not, the imposition of the CAC clause or not, the next “Question” to the ISDA if the CAC is triggered asking if there has been a credit event to trigger the CDS contracts, the possible consequences of a CDS trigger, the decision on the bailout funds by the EU and finally the March 20 hard date when Greece must make its bond payments or default. Regardless of your opinion, it may now be stated precisely, that there is a lot of risk on the table and on that basis alone I would assume a quite defensive position until this all gets played out. The risk/reward ratio is now strongly slanted towards Risk.
The Standoff
The IMF has offered $17 billion for the new Greek bailout according to the Finance Minister of Germany. The EU had hoped for a contribution of $51 billion so there is a shortfall in what has been theoretically approved of $34 billion which has been approved by no European Finance Minister or government. The IMF has said that they might increase their contribution if the firewall was made larger. Germany has stated that they will not increase the firewall as it is sufficient. We are currently at impasse here with the Greek March 20 bond payment looming large on the horizon. While this standoff is being largely ignored it is out there and quite real and some outcome must be reached in a timely manner or this could have a dire impact upon the next round of Greek funding if not concluded.
Spain
Spain has said that they will miss the financial targets mandated by the new EU agreement. It is not a small miss but a large one and this did not come from some unnamed public official but the Prime Minister. As Spain asks for leniency Austria has already said no and this will play out in a nasty manner I would guess. The miss is so large that I think the EU will demand more austerity measures which will cause more social unrest and a further division between the periphery and the core countries. If not that then the new agreement is worthless and I think Germany will dig in its heels. At current levels Spain and their banks are decent shorts and while the new LTRO drove up their bond prices; the effect will be short term and we are probably close to a turn in prices and yields.
China
Hard landing, soft landing; both unknown but what is known is that the Chinese economy is declining. China now predicts a growth rate of 7.50% versus 8.00% (a 6.6% drop) which is the lowest level since 2004. Contraction in China will lead to an Asian contraction and a rise in yields for not just sovereign debt but bank and corporate debt in Asia. Since the Chinese are generally optimistic in their projections we may see a real number, next quarter, of around 7.00% which will cause further consternation. I would be locking up profits in Asia now before we experience further deterioration.
Second Bailouts
Regardless of the protestations and political rhetoric there are two countries now likely to need further rounds of funding. They are Portugal and Ireland. I would say the odds for Portugal are now at 85% as I regard their current financial statistics. Their economy is in serious decline which will also affect Spain and it is quite possible now, in my view, that Spain will have to pony up to the till at some point in 2012. Ireland has done a decent job of implementation of the EU guidelines and the problem here is not getting the job done or doing what has been agreed to but just their economy. The Irish GDP is in a state of deterioration while their debt to the EU and to the bank’s bondholders remains. The slippage is slow but it is there and cannot be ignored so that I put a 40% possibility currently of the Irish having to come back to the table during the next twelve months without the EU agreeing to some PSI plan for Ireland. There is also the Irish referendum forthcoming, a slippery slope no doubt, and public sentiment may well worsen as new economic data becomes available.
Advice
The next two weeks are “risk-off” weeks in my opinion. There are multiple chances for screw-ups, a variety of ways that the Greek transaction could fail or be impaired, and unintended consequences looming in large numbers. I would be taking some profits, raising cash and watching for opportunities. There is way more risk than reward at present and “Preservation of Capital” should be uppermost in your mind. During the next two weeks guesswork will be replaced by reality and fanciful notions replaced by actual facts. Caution is advised.
Zero Hedge
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