Contagion risk from Cyprus not too high: Morgan Stanley

Gerard Minack of Morgan Stanley believes that the risk of contagion from Cyprus bailout deal issue is not too high.

Speaking to CNBC-TV18 he said that the concerns on Cyprus may catalyse a near-term correction and one should use it as an opportunity to buy with six-nine months view. Minack is relatively upbeat on risky assets. Meanwhile, he expects the European Central Bank (ECB) to remain a backstop in case of the contagion spreading across the EU. Below is an edited transcript of the analysis on CNBC-TV18 Q: How big a risk could this be for the euro region? Is there a risk of contagion? A: There is a risk of contagion and though Cyprus, in an economic sense is very small, but what policymakers have done is symbolically very important with  the first haircut seen on bank deposits. There have been expectation of a correction in risk assets after the stellar run since the middle of the year and the two factors that could be a catalyst for a correction are either a return of a sentiment of instability in Europe or secondly, the prospect of macro weakness in the US. But we think this would probably be a dip to buy on a six-to-nine month view and we are relatively upbeat on risky assets. The resilience of the markets has been quite surprising and Cyprus may now be the catalyst. Q: The euro seems to be the most vulnerable asset class this morning. How much pressure do you expect to face and by how much could the euro could fall? A: The euro has always been weak when the crisis had hit the headlinjes. But it has been surprisingly resilient in many other ways partly due to the underpinning of current account surplus nations and banks continuing to repatriate capital as they shrink their balance sheets. So, in the near-term as the events in Cyprus play out, the euro will be under pressure. The big events in currency is the US dollar being solid that was true even before Cyprus reared its ugly head and the weakness in the Yen and it is expected that both these trends will continue for the foreseeable future. Q: How do you expect the European authorities to react to the fears of contagion which might come to the fore today? A: The Cyprus situation is quite different. For a central bank like the European Central Bank (ECB) to offer a backstop to banks is completely within their typical ambit and if there  is a run on deposit spends I would expect the ECB to have open its usual facilities to help banks that have got a liquidity problem. In that sense, the hurdle for ECB action seems a lot lower than it is when the problem is sovereign bonds as we saw in the other peripheral markets over the last 18 months. So the ECB should stand ready with its usual windows to provide assistance to banks that may see some run on deposits. We are not persuaded that there will be a broad-based run for deposits outside Cyprus. In other words, we are not sure that this will be a catalyst for contagion and I guess we should have to wait and see not so much the market reaction, the market may well jump at shadows, but ultimately it will come down to the man on the street and whether we start to see people queuing outside the Greek, Spanish or the Italian ATMs, our view is you will not see that. Q: What would be the impact on markets? The US markets have been strong. Other markets have been quite disparate in their performance. Does the event have the potential to be the catalyst for a much sharper equity-market correction? A: Yes, I think it does. It has been a stellar move by equities since the middle of the year and as you quite rightly pointed out we have seen a bit of unevenness outside the US, but Wall Street has been trading in a straight line. I think there are signs of complacency. Volatility measures are very low which suggests that few people are taking out protection. Hedge-fund positioning is quite long. Sentiment indicators are quite stretched. So I do not think anybody should be surprised if we see a typical tactical correction that in a sense just resets sentiment indicators. It would probably be a single percentage drawdown and not quite as bad as the sort of meagre corrections that we have seen over the last three years. But this could be the catalyst to get that setback up to what has been a straight line move by Wall Street over the last three months.