Market eyes upcoming ECB meet, German court ruling: UBS

Stephane Deo, chief european economist, UBS, says that for the market there are lot of risk in near future like ruling of German Constitutional Court and other factors. He thinks that people are worried and they have short the European equity and European fixed income.

He thinks the conditions that will be imposed on Spain are very important. By buying bonds the ECB treats the symptom of the crisis but the fundamental issue is that you need structural reform in Spain, clean the banking system and reduce the deficit. Below is the edited transcript of his interview to CNBC-TV18. Q: What are you expecting on 6th September? You think details of bond buying should be out or the modality should be out on that day?
A: I am not sure that we will have a lot of information on 6th September. I too believe that there is something quite important which is in preparation from the ECB and probably they will intervene quite forcefully on the short part of the curve at least for Spain, may be for the country.
But Draghi said that they will wait for Germany's Constitutional Court ruling which is scheduled on 12th September. It is also made very clear that the ECB plan will be conditional on countries accepting a memorandum of understanding. So it also depends on whether Spain will request for help. So we might have some information on 6th September. But I remain quite positive and I think that there is indeed something big coming in Europe. Q: In the past 6-8 weeks we have seen the markets fairly enthusiastic; bonds, equities even commodities about Mario Draghi living up to what he has promised in the days to come. Do you think this could face some kind of resistance from the Germans pretty soon? Are you worried that the markets have run ahead of themselves?
A: I think the rally of the markets is not really becoming enthusiastic. I think people are very worried and they have short the European equity and European fixed income and if something comes form the ECB, then you don’t want to be short.
So a lot of people have covered their short and our markets understanding is that nobody is really convinced that indeed something big is coming. For the time being it is a short covering rally. And there is indeed a lot of risk in near future like German Constitutional Court ruling and other factors. Q: You said that you are expecting something big from Europe. We have leads which suggest that buying bonds up to three years is not ruled out so that perhaps to a certain extent factored by the market. You also know that largely the ESM should not be a very big negative event. So what else could surprise markets at this point?
A: I think we want to see the details and the small prints of the intervention. We have changed our asset allocation in July; we became more constructive in Europe. Because we though something was in preparation from the ECB but the weakness of this argument was that we didn't know exactly what would be proposed and we still don't know, so 6th September is an important day. The market will rally when you have details on a piece of paper and you will know whether it is credible, compelling or not. Q: Spain already agreed to those conditions of austerity because of the bank bailout. On that do you expect additional conditions to be laid out for any kind of help on the sovereign or would it largely mimic what they have done already on the banking bailout fund?
A: I think the condition are very important because there is a lot of focus on the ECB but if the ECB stopped buying a lot of paper and Spain does not address the fundamental problem. You will not convince anybody because you are buying time.
So, I think the conditions that will be imposed on Spain are very important. By buying bonds the ECB treats the symptom of the crisis but the fundamental issue is that you need structural reform in Spain, clean the banking system and reduce the deficit. So the conditions imposed on Spain from my point of view are probably as important as the ECB action. Q: Aside from the ECB meet would there be other important dates that you would watch out for after all you are not expecting a one shot all issues to be released by the ECB on 6th September itself?
A: The ruling of the Constitution Court on 12th September is an important event for Europe and also the US talking about Spanish banking system, where there is no data of banking system that will be released later part of September, then the formal request from Spain for help, for which there is no precise date.  On the other side of Atlantic, a first look at the non-farm payroll which is crucial followed by a FOMC meeting.