Free Markets, Free People

Here come the Euro credit downgrades

The credit rating companies have had a number of European countries on a credit watch for a while.  And they made it pretty clear that what the leaders of the EU had cobbled together late last year didn’t answer the mail.  So really, this should come as no surprise:

Standard & Poor’s has downgraded France’s credit rating, French TV reported Friday, while several other euro zone countries face the same fate later in the day, according to reports.

On the more optimistic side:

"The consequence (if France is downgraded) is that the EFSF cannot keep its triple-A rating," said Commerzbank chief economist Joerg Kraemer.

"That may irritate markets in the short term but wouldn’t be a big problem in a world where the U.S. and Japan also don’t have a triple-A rating anymore. Triple-A is a dying species," he said.

Wow, that’s wonderful, no?  “Triple-A is a dying species?”  Oh well, moving on…

Triple-A is a dying species because of the obscene spending of welfare-state politicians.  We’re supposed to shrug and accept it per the Kraemer’s of the world.  This is just an “irritation”, you see.

In reality it is much more than that:

John Wraith, Fixed Income Strategist at Bank of America Merrill Lynch told CNBC the confirmation of a mass downgrade would be another serious step in the crisis and would lead to a serious worsening of sentiment.

"To a large degree it’s widely anticipated," Wraith said. "However, we think the reality of it is going to have a knock-on, ongoing impact on these markets."

“It clearly deteriorates still further the credit worthiness of a lot of the European banks and just keeps that negative feedback loop between struggling banks and the sovereigns that may have to support them if things go from bad to worse in full force,” Wraith added.

A downgrade could automatically require some investment funds to sell bonds of affected states, making those countries’ borrowing costs rise still further.

"It’s been priced in for several weeks, but the market had been lulled into complacency over the holidays, and the new year began with a bounce in risk appetite, thanks partly to a good Spanish auction," said Samarjit Shankar, Director Of Global Fx Strategy at BNY Mellon in Boston.

"But the Italian auction brought us back to earth and now we face the spectre of further downgrades."

Italy’s three-year debt costs fell below 5 percent on Friday but its first bond sale of the year failed to match the success of a Spanish auction the previous day, reflecting the heavy refinancing load Rome faces over the next three months.

As we’ve said for some time, the key to whether this works out or not lies in the bond markets.  And this will make the bond markets very uneasy.

Oh, and just to add fuel to the fire.  From Zero Hedge:

Last week, when we pointed out what was then a record $77 billion in Treasury sales from the Fed’s custody account, in addition to noting the patently obvious, namely that contrary to what one hears in the media, foreigners are offloading US paper hand over first, there was this little tidbit: "The question is what they are converting the USD into, and how much longer will the go on for: the last thing the US can afford is a wholesale dumping of its Treasurys. Because as the chart below vividly demonstrates, the traditional diagonal rise in foreign holdings of US paper has not only pleateaued, but it is in fact declining: a first in the history of the post-globalization world." Well as of today’s H.4.1 update, the outflow has increased by yet another $8 billion to a new all time record of $85 billion, in 6 consecutive weeks, which is also tied for the longest consecutive period of outflows from the Fed’s Custody account ever. This week’s sale brings the total notional of Treasurys in the Custody account to just $2.66 trillion (down from a record $2.75 trillion) and the same as April of last year. And since the sellers are countries who have traditionally constantly recycled their trade surplus into US paper, this is quite a distrubing development. So while the elephant in the room could have been ignored 4, 3 and 2 weeks ago, it is getting increasingly more difficult to do so at this point, especially with US bond auctions mysteriously pricing at record low yields month after month. But at least the mass dump in Treasurys explains the $100 swing higher in gold in the past month.

Click on over and check out the chart.  Lots of questions to be answered for which, apparently, only a few are chasing  answers.

While the media is dominated by political races and urinating Marines, this little drama is passing by almost unnoticed.  But trust me, it’s effect, should everything collapse as it may, will be profoundly noticed.


Twitter: @McQandO

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9 Responses to Here come the Euro credit downgrades

  • This only goes to show that America has out Europeanized the Europeans.
    I guess we have no further need for Obama.

  • We are living in “interesting times”. 2012 will be downright fascinating.

    • @Ragspierre I await with great anticipation, the profound pronouncements of the DownEast Dork from Moosescattsett.

      • @looker Ewww, yeah. I am waiting with baited breath [sic]…I’m using anchovies…

        • @Ragspierre Well, here’s ONE way to keep Erb from pontificating – talk about how well the Euros are doing….

  • this is working out about like I expected. but sooner than I expected. I was hoping that stocks would at least have a mid year rally before the second installment of the ongoing financial disaster hit. But it might happen before Q3 2012.

    At any rate, be ready to sell stock, except for energy stocks, I would hold on to them. And if you still have gold or silver, don’t sell yet. What ever you do, do not hang on to a large amount of cash. The Treasury has been pumping money into the system like crazy and we will have a lot of inflation soon.

    I know that has been predicted before, and inflation has occurred but remained moderate. The Krugmanites claim that is because of a liquidity trap. But I think it has more to do with markets fleeing the bad prospects in Europe and increasing the strength of the dollar. But either way, it cannot last.

    Markets forces cannot be denied forever, eventually a lot of superfluous money will cause inflation. But inflation or not, gold will go back up and the stock market will go back down when the next wave of financial meltdown hits.

    Energy and exploration companies however, may still do well. Also, strangely enough, any real estate holding companies which right now have low debt and lots of cash on hand will do very well. As real estate prices continue to slump and they buy up more properties, they look like good long term investments.

    • I’d be interested in hearing how a global recession ( economic slowdown) would increase the demand for energy such that it increased the value of oil or other fossil fuels.
      I personally think that the current high price of oil is a leading indicator that the smart money believes that global growth will increase, not decrease, and that Europes troubles are already discounted.
      I agree on real estate, especially rental properties. While values have gone down, rents have not, so people looking for ROI in a market with 2% Treasuries, are going to find cash purchases of managed real estate holdings more and more attractive.I think mortgaging investment real estate for a profit is dead industry for now, rates or low enough, but credit is way tooo tight.
      I also think China is quietly unloading treasuries, but they are not replacing them with anything, they are starting to hurt for cash, or perhaps more accurately, they know that they in near future they will be hurting for cash, and they don’t want to have to dump investments too quickly for the same reason anyone would not want to put a major supply on any market.