I am pleased that I said yesterday that summer lulls in equity markets can be misleading and quickly reversed. The good figures from Alcoa (followed later by Intel the chip manufacturer) gave us triple-digit gains for equity indices around the world. The FTSE 100 was up 104 the Dow Jones industrial average rose 146 points and the Japanese Nikkei index followed on by rising some 258 points. As is the way on such days matters which on other days might have an impact were ignored for example the Chinese stock market having fallen 2% or Portugal being downgraded by Moodys. Although to be fair the Moodys announcement of which more later was probably accompanied by the cry “Mafeking has been relieved” which as this town was relieved in the Boer war over 100 years ago… As to yesterdays inflation figures I feel that they are hinting that inflation may prove to be quite sticky through the rest of this year which of course may well carry us to the VAT (and hence) inflation increase in January 2011. As I do not expect them to raise rates ( and am beginning to wonder if the window for so doing might be passing) it will be a difficult period for the Bank of England.
Moodys downgrade of Portugal’s credit rating
Yesterday Moody’s cut Portugal’s sovereign debt by two notches from AA2 to A1. Apologies to those who find the letters and numbers the ratings agencies use confusing, opaque and inconsistent amongst themselves, I am afraid it is another of their failings. In truth the move is probably more due to the fact that Moodys have a new sovereign debt team than any great change in Portugal’s circumstances. This move could and should have been made a couple of months or more ago hence the “Mafeking has been relieved” comment. However their reports are often interesting.
The Portuguese government’s debt-to-GDP and debt-to-revenues ratios have risen rapidly over the past two years…..with the debt-to-GDP and debt-to-revenues ratios eventually approaching 90% and 210%, respectively, before stabilizing once the budget has moved back into a primary surplus position
Moody’s also remains concerned about the economy’s medium-term growth potential
Actually that is not too bad a summary and the real problem is the last sentence I quote. I have written articles on Portugal assessing her economy ( 24th June,14th May,5th May amongst others) and one of the issues was that she has grown very slowly since ( and to an extent before) she joined the euro zone. She in effect has had her own lost decade of low growth in the 2000s when most other countries were having booms and expanding. Portuguese economic growth crawled along at 1% a year. Now project that forward into the post credit crunch era and it is hard to predict that she will grow at any great speed. This is in spite of the fact that she outperformed in the first quarter of 2010. On top of these issues comes the uncertain size but clear direction of the impact of her austerity package on economic growth.
So if she grows slowly again it is hard to see a way out of her debt problems as slow economic growth has clear implications for government revenues and spending. Whilst she is trying some structural reforms in her economy it will be some time before we see any real effect. Being in some respects an economic Siamese twin with her neighbour Spain who has her own problems does not help. I have pointed out before the increasing reliance of her banks on funding from the European Central Bank as it rose from 18.5 billion Euros to 36.6 billion between April and May as interbank markets refused to trade with what they perceived to be weaker banks.
What effect does this have?
In some ways Moodys is just playing catch-up and if anything still gives Portugal too high a rating. If we look at her ten-year government bond yields then they closed last night at 5.69% which was up 0.26% on the previous close. At the shorter-end her two-year government bond yield rose from 3.09% to 3.27%. Rather curiously some news sources are reporting that there was little impact which is not quite the story of the numbers above. Personally rather than the downgrade itself my opinion is that the downgrade probably focused investors minds on Portugal’s problems, as with all due respect to any Portuguese readers it is a small (but pleasant) country which is unlikely to be at the forefront of world investors minds every day.
Greece issues some Treasury Bills: success or not?
Yesterday must have been a day of some trepidation at the Greece public debt management agency. After rather embarrassingly having cancelled an auction of 12 month Treasury Bills the day before, the agency may well have been in some disarray. However in the event they achieved a partial success in my view. The successful part was that she raised more than expected raising 1.62 billion Euros rather than 1.25 billion and that whilst most buyers were domestic ones there were some foreign buyers. She also paid interest at 4.65% which is less than the 5% she can get funds from the euro zone rescue fund. This is not a lot over the 4.55% she paid back in April when her ten-year government bond yield was more like 6 1/2% than the current 10.4%.
However these bills only last 6 months so this is only a rather temporary fix. Also if you look at 4.65% then for example if you ignore the undated gilt sector then there is not a UK government bond of any duration which has a redemption yield of anywhere near 4.65%. Our latest Treasury Bill auction was at a rate of 0.4942% on the 9th July. If you cast your eyes up the page to Portugal which has her own problems then she even at two-years duration her government is only paying 3.27%. So it is only a partial success.
Whether the European Central Bank’s Securities Market Programme implicitly backed this issue we may never find out due to its secrecy. But even if it did not then these assets could be deposited at the ECB in return for a loan at 1%. You would not get the full amount in return as the ECB imposes a haircut but 4.65% on say 90% is a lot higher than 1%. If you are a Greek bank who would collapse anyway if Greece defaults on her debt you may as well take up as much as you can. At this point the success begins to look rather more partial.
Thank you to those that replied on the subject of Greece’s finances yesterday. I will return to this subject as I have the feeling that there is a danger of being misled by short-term expenditure cuts. Also many news services seem unclear as to why the plan to sell 12 month Treasury Bills was abandoned. It really is quite simple,they yield just under 7% and Greece can borrow from Europe at around 5%, which would you do? Put another way the plan to issue these bills was somewhat ill-considered in the first place.
The ECB and its Securities Market Programme
For those unaware of this programme it is the ECB’s equivalent of Quantitative Easing. It is packaged in a more complicated fashion as rather inconveniently European Treaties actually forbid this sort of thing so a fudge is required.The excuse is that markets are disturbed and in disequilibrium and so the ECB is helping settle them down. In effect it has been buying peripheral debt which means mostly Greek and also some from Portugal, Ireland and Spain. It has never specified how much it would buy but appears to be winding down its purchases as it announced yesterday that over the last week it only bought 1 billion Euros worth of debt under this programme making a total of 60 billion Euros. In addition Mr Trichet the President has heavily hinted that the programme is ending.
Personally I feel that if you go back to early May when on a Thursday Mr.Trichet stated that the ECB was not even discussing such a policy and yet at 2am on the following Monday the Spanish Finance Minister Elena Salgado announced that such a policy was starting, I suspect that the ECB was forced into this policy and will be happy to abandon it. Some members such as Axel Weber have pretty much stated this publically although others have been more circumspect.
There have been a couple of interesting developments over the past couple of days. We to have been affected by ratings agencies. You may be pleased to hear that Standard and Poors has reaffirmed our AAA status although we remain on negative watch. However they did say something interesting about the Office for Budget Responsibility.
Our economic growth assumptions are lower than those of the new Office for Budget Responsibility (OBR), in large part because we think private sector deleveraging will depress demand to a greater extent than assumed by the OBR
So, while we agree with the OBR that a rebalancing of the economy will occur over the next five years with net exports contributing positively to growth (thanks to a 24% real effective depreciation in the exchange rate since 2007), we think the process will likely proceed more slowly.
I would imagine George Osbourne and Alan Budd received that with an ouch…
Meanwhile in the orient something has stirred on the issue of ratings. China has revealed the ratings from her Dagong Global Credit Rating Company. Here we in the UK have been downgraded to AA- and we are not alone as many other western countries have been downgraded too including more surprising candidates such as Germany and Canada as well as more obvious candidates. The criteria are that they and we are ” heavily burdened with increasing debt”. Be that as it may this agency has somehow found a way of raising the credit rating of its own (totalitarian) government from a variety of single A statuses to AA+.
I am now going to look at todays unemployment figures which sound good on a headline basis with registered unemployment falling by 20,800 but we have had other themes such as falling employment and a rising category of economically inactive to consider in recent figures.
Update 11:30 am
Portugal has auctioned some government bonds this morning and it has gone reasonably successfully. She auctioned a 2012 stock at an average yield of 3.159% and some more of her June 2019 4.75% at a yield of 5.304% and in total some 1.68 billion Euros were issued. It is hard to compare with previous issues as the last tranche of the 2019 bond was auctioned just under a year ago at an average yield of 4.129% and much has changed in the world since then.
The cloud in the silver lining is that at 5.304% for the 2019 bond it would have been slightly cheaper to have borrowed the money from the European Financial Stability Facility(EFSF) which conveniently has just declared itself open for business. Perhaps not that open…