Spain, Greece are bringing Europe to boil again: IG Markets

As borrowing costs get closer to the danger area that forced Ireland, Greece and Portugal to seek a bailout, investors are concerned that Spain is next in line to dial for help. Justin Harper, head of research, IG Markets finds that the Spanish government is downplaying its country’s debt issues.

“That fear is very much evident in the marketplace as in they have often said that they are fine and are strong enough and the next minute they have had to come to the EU or the IMF to ask for funding,” says Harper.
The last few weeks has seen the focus shift from the euro zone region to China’s growth worries and the possibility of another round of liquidity being injected into the system by the US Federal Reserve.
However, the fear over Spain all of a sudden going cap in hand for a rescue package along with Greece back in the news for not able to meet its debt requirements has shifted the spotlight to the debt-ridden 17 bloc region. Below is an edited transcript of his interview. Q: How are you reading the developments in Spain? What is the market taking away? How do you expect investors to react?
A: We should see a blow from the Spanish bank, possibility of a bailout and worries about the economy. One of the interesting things as we saw with London Interbank Offered Rate (LIBOR) and Barclays and the sort of fear of what numbers are being cooked here is that the Spanish government may actually be underplaying the whole situation.
That fear is very much evident in the marketplace as in they have often said that they are fine and that they are strong enough and the next minute they have had to come to the EU or the IMF to ask for funding. We could be seeing that with the Spanish economy here, i.e. they are saying everything is fine and now all of a sudden they are going cap in hand for a rescue package.
So that’s really worrying the markets at the moment. We have seen the euro dip. We have seen the risk assets come off, so for this week ahead I think the Spanish fear is going to be very much in the spotlight. But with Spain back in the news and the Greek situation not being resolved, these two elephants are bringing the focus back to the euro region. Q: Then there is the troika - European Commission, European Central Bank and IMF arriving in Athens tomorrow to look at Greece meeting its commitments. The fear is that Greece may not be able to meet its commitments. In fact, once again the talk of exit is resurfacing. Are we going to see a fairly volatile week now with this kind of talk?
A: I think so. We have seen the euro zone come off the center of attention recently as the focus has been on China and looking at the Fed and the hopes of quantitative easing and now the euro zone is very much back on the horizon. We look at Spain and of course the pendulum swung back to Greece and there are fears that it may exit the euro zone again. I think the Greek government has talked about and compared Greece with the US of 1930s, a sort of great depression there which really brings it home to you as to how worried they are about the economy and the possibility of exiting the euro zone. Q: Do you actually see Spain asking for a full-fledged sovereign bailout and if yes, what is the timeframe and the reaction we would expect from the markets if it happens?
A: I think it’s on the cards. The problem is you can’t really trust the Spanish government. They said last month that the banks are in a healthy position and then they had to go to the EU for billions of euro worth of support. It’s another example of an economy that’s actually not really assessing its situation very well and then it has to call upon the IMF and EU for funds. It’s a very real threat on the horizon and you are seeing that priced into the market.
I don’t think it is panic but they are worried about Spain collapsing or having to go to the EU for funding. Then of course there is still the Greek situation that hasn’t been resolved. They have got a coalition government that hasn’t quite decided on what cuts can be made and what cuts they can get away with, with the electorate. So you have got two very big situations coming to the boil at the same time. Q: A figure like 7.3% is quite a tall yield task. Would you expect the ECB to do something pretty quickly like today? You yourself said that it’s not really panic at the moment but is panic just around the corner?
A: I think so. If you look at central banks, the ECB is far more the kneejerk reactor than the US. The US likes to sit and wait and the Fed likes to see what the numbers look like month-on-month. With the EU, because if those heightened worries of somebody collapsing and leaving the eurozone, they are more likely to make a move quicker. So we could see something, possibly not this week, but quicker than we might see China or the US do some more policy easing. Q: With such an uncertain backdrop, do you expect any kind of easing from the ECB or even if it comes from the Fed or China actually providing an upside trigger for markets?
A: All of these things are short-term fixes. When you look at the ECB and what they are doing with the LTRO, when you saw the Fed with the first two rounds of quantitative easing and you are seeing China with little snips here and here and the RRR, I think they are all short-term fixes. They aren’t really addressing the problem, but they keep traders happy for a while.
You see the markets surge and then they drop down again, because there are still worries about global growth and you will see that again. There could be a QE3 around the corner, there could be more ECB, but I think that would just end up sliding again. Q: So basically it’s a rally an investor shouldn’t buy but a trader would?
A: A trader would, definitely. It’s a great time that these spikes and volatilities we are seeing across everything from foreign currencies to commodities to equities there. But if you are looking at long-term investment, you are thinking about the sort of global growth, you should really be waiting and saying what happens after the central banks run out of money and they are no longer prepared to prop up the markets. Q: Till year-end, what do you expect for the equity markets? Are we looking at a significant downside?
A: They are mixed across Asia. If you look at India which is obviously struggling with the Nifty, in Singapore the SGI has done pretty well the last couple of weeks, it’s very much a mixed bag and it’s based on local issues and of course the macro economic issues. Everybody is looking to the Fed. Everything is hoping that there will be another round of quantitative easing and not really looking past that at this moment.
It could have more of a long-term effect, but at the moment it’s been factored into the market and we hope that it will arrive soon. At the moment, I think equities are facing a pretty choppy period with the push and pull from Europe and the US.