Tuesday, November 30, 2010
You know that dream where you find yourself back at school about to go into your finals and you have done NO revision and what’s more for some reason you aren’t wearing your trousers? No? Well we bet some Eurocrats are wishing that was their reality compared to their current “Nightmare before Christmas”.
But say we were to wake up and find ourselves in their nightmare. What would We do?
TMM notes that our path from here is not exactly clear but there are options for which we have invented code names used by the leaker in Merkel’s office***:
- Increase the size of the EFSF (“Big Bertha”).
- Create a pan-European bank recapitalization fund and new stress-test round (“Groundhog Day”).
- Explicitly rule out the SDRM (“Horatio Nelson”). Burying head in sand optional.
- Instruct the ECB to go nuclear and buy bonds unsterilized (“Dr Strangelove”). Utter loss of credibility counseling to be provided by the Fed.
- Require Sov CDS to be 100% margined (“The Little Bighorn”). Watch Euro dive some more as all those “down with Europe” flows go into the one remaining market they can.
- Immediately stick Portugal and Spain into the EFSF (“2 tons of you-know-what in a 1 ton bag”). Have you ever had your shopping bags rip breaking all your eggs on the way home from the grocery store? We have.
We would view (2) as the most positive development. In terms of finance, we would imagine that the Euromandarins are looking at the pre-funded EUR60bn EFSM as a potential source of bank recapitalization funds, supplemented by another draw to take us to, say ~EUR100bn which we would say is enough for the system. If the Euro-banks are capitalized properly (and credibly) this time, then there will be nothing to stop them scooping up all this peripheral debt and thus the sovereign-bank feedback mechanism will work in reverse.
At least, that's what we would do it was our nightmare. However, the Eurocrats have shown themselves to be utterly clueless and comments such as:
*FRANCE'S BAROIN: NO RISK OF A DOWNGRADE FOR FRANCEshow that they are obviously suffering from sleep paralysis. Which as anyone who has suffered it will know is very frightening indeed.But back to reality.
Another day, another 1.x% down on the Spanish 10yr and the Euro, though TMM notes that equities are doing OK all things considered. Maybe it’s that the supranational sector equities are actually becoming a sanctuary away from sovereigns, FX and bonds. Even the Ibex index is rapidly turning into the “Telefonica and Banco Santander” index, both of which have big businesses outside of Europe.
Telefonica got $6.4bn of its $15bn of Q3 revenues and $5.4bn of its $7.3bn of operating profit from Latin America. At 8% dividend yield and 8.5x PE it appears that the largest index constituent has reached, as pointed out by our friend, Charles, in the comments yesterday, the point of "compelling un-leveraged cash yield" from whence few things can trade down without any of the complexities of having a heavily debt financed balance sheet like Banco Santander. Though that is looking pretty ridiculous too. Take earnings from Latin America at 12.5x (Banco Itau's level) and the rest of the bank comes at 4.6x PE. That does look pretty cheap and with those two comprising 41% of the Ibex TMM wonders whether mindlessly selling Ibex futures might have had its day.
We are thinking of donning the Kevlar knife catching gloves as we cannot believe there isn’t a "surprise" change around the corner as the Eurostriches wake up and pull their heads out of the sand.