See 4% sell-off in Europe on Cyprus crisis: Rabobank

Adrian Foster of Rabobank says that the crisis in Cyprus may cause a 3-4 percent selloff in European equities by end of the week.

Also Read: Cyprus to hurt sentiment in short-term; buy CIL, Exide: UBS
Speaking to CNBC-TV18, Foster adds that the Cyprus government has already initiated a differential haircut on deposits- 6.75 percent for deposits under 100,000 euro and 9.9 percent for deposits above 100,000 euro with a reduced cut on smaller deposits. Also Read: Contagion risk from Cyprus not too high: Morgan Stanley
Though this sets an uncomfortable precedent if there are new tensions in Spain or Italy, per se the Cyprus issue is not the straw that will break the camel’s back, he says. Below is an edited transcript of the analysis on CNBC-TV18 Q: Withdrawing 10 percent of deposits would be have a considerable effect in India and could lead to political chaos. Would it be as bad in Cyprus?
A: It is fair to say that it would be political chaos in most countries of the world, because most banking systems are quite domestically focused in their deposit base and their international exposure is through the wholesale market. That was certainly the case in Greece. In Cyprus, it does look as if it is a bit different.
The banking system is disproportionately a large part of the economy and it is clearly the exposure of domestic banks in Cyprus to foreign depositors. I do not know what the composition of those foreign depositors is, but a lot of them are Russian due to their tendency to use Cyprus as an offshore financial centre.
At the core, Europe has looked at the challenges in Cyprus through the banking system’s exposure to Greek sovereign debt which was written down mid-last year. So that is where Cyprus’ problems really stem from. Europe is reluctant to lift Cyprus off the rocks on a euro-for-euro basis because of the make-up of the depositor base in the country. That is what separates or makes the problem in Cyprus a bit different. Q: What would you think will be the fallout? Would it be foreign, maybe Russian funds withdrawing with domestic depositors staying put for want of options? By what standards is there expectation of a contagion?
A: Let’s be honest. It is uncharted territory for a bail-in of depositors. Five countries in Europe have previously opted for bailout support and this is the first one that has seen it. So it is certainly an interesting example from which we are all learning as the events unfold with further discussions.
The Cyprus government has initiated a differential haircut on deposits- 6.75 percent for deposits under 100,000 euro and 9.9 percent for deposits above 100,000 euro. I estimate that the haircut on smaller deposits will be reduced. Q: What happens in the event the Cyprus Parliament votes against this bill?
A: In my view, the Parliament is perhaps less likely to vote against it outright and would negotiate some changes. Cyprus is indeed between a rock and a hard place and it is unlikely that the Parliament slams the door on the deal. Q: Would you sell off in your risk assets and which assets would you sell and up to what point?
A: There will be a sell-off across the board in equities and in peripheral bond markets. There has been a bit of a sell-off session in the Asian market session. I think at the end of the week there will be a bigger sell-off in Europe possibly of 3-4 percent for the European equities and beyond that Cyprus probably will turn out to be more of an accelerant for challenges if they arise in other countries, because the sovereignty of the deposit issue has been broken.
If Spain or Italy is hit with new tensions then I think this will set an uncomfortable precedent for those five countries and investors will take fright from that. But per se I do not think the Cyprus issue is the straw that will break the camel’s back. Q: What kind of response do you expect from EU policymakers or the ECB (European Central Bank)?
A: The ECB has implemented a few policy measures at the moment with regular access to liquidity channels. The ECB may not be too vocal as the events in Cyprus unfold. Q: Is the rise in gold just a one day wonder or will more Europeans put their money in gold as they begin to distrust bank deposits?
A: The move in gold is not particularly significant and most European depositors are aware that Cyprus’ bank deposits are multiples of the GDP. So I think there is widespread acceptance that Cyprus is not just a domestic banking system that has fallen on hard times. Q: Is the Euro testing at 1.2885 some kind of a technical support on Fibonacci retracement levels? Will it fall lower but find support?
A: I think it will fall lower and find support. It could take a few days for the situation to become clear, probably by the end of this week or early next week. Q: FII inflows into markets like India have been fairly strong. Do you think that at least in the medium-term there is no need to worry on the back of uncertainty caused by Cyprus?
A: Yes, I doubt the Indian policymakers are really coming up with measures to insure against this. There is no doubt that the Indian financial markets will be moved by the ebb and flow of sentiment in Europe.