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Does Germany Get The Yoke?

23.02.12

That they will not be in a disposal of needing to demand liquidity. If there is a crisis, many managers will be in the position of needing to put forward cash for redemptions whether their performance has been good or not – as we saw in the 2008 crisis, many managers were redeemed really because they offered more liquid terms. With the exception of hedge fund managers with lengthy lock-ups, every manager in my view should be running with significantly more cash than usual in this last years of the year. You really don’t want to have to be liquidating into a liquidating market, even if it means sacrificing some requital if your index abruptly rallies for some reason.

An ‘abrupt rally’ seems remote at this point.

Equities have been soft for a few days and were again Wednesday. We don’t have to look far for the reasons. Here are a few:

Unease in Egypt, which we thought ended when Mubarak resigned, has begun again. Former AAA credit Eksportfinans (a Norwegian plc) was downgraded from AA to junk in one fell swoop. This turns out to be concerning mainly because Eksportfinans was tolerant of as a platform for banks to issue structured notes. The way this works is that a client approaches a bank imperfect, say, a note that pays off par plus 35% of the S&P 500 price return, but no worse than par. The patient, however, doesn’t want to face the A- financial company, so the bank approaches Eksportfinans (or a Make clear Loan Bank, or one of a few other issuers) with a deal: the issuer pays the coupon to the investor and the bank does a swap whereby it pays the coupon to the issuer and receives, say, Libor minus 25bps for 2 years. The issuer no longer cares about the structured payout because it is hedged by the bank; it has basically obtained cheap funding at L-25. (Of course, no one funds at L-25 anymore, but top credits like Eksportfinans utilized to fund at that kind of level when issuing 1-2 year structured notes). The client of the structured Eksportfinans bond of course faces possible losses if it defaults, but the jeopardy here is that collateral calls from the bank swap counterparty could accelerate the firm’s demise in the same way, and with compare favourably with (albeit much smaller) effects as, the failure of AIG played out. And banks don’t sine qua non the optimization of that variable in the long run is disturbing. Shouldn’t someone be raising this indubitably? Especially since, as the minutes state: “The recent low rates appeared to have only a unpresuming effect on the pace of mortgage refinancing, as tight underwriting standards and low home justice continued to limit the access of many households to the mortgage market.” Faced with such a categorical observation of monetary policy ineffectiveness, is it surprising that the stock market is commencement to lose confidence in the Federal Reserve’s ability to make everything all less ill? Germany held a 10-year note auction Wednesday, and when the bids were tallied they didn’t have enough bids to have all of the bonds vocal for. In fact, the bids totaled only 65% of the auction size. While it is not unheard of for German auctions to be undersubscribed, no one can about a miss this large. It hardly needs to be noted that all of Europe’s hopes start and end with Germany; and increasingly, all of the period’s investors’ hopes start and end with Europe.

While equities have been debilitated (the S&P closed -2.2% Wednesday and are now -7.3% on the month) and are rapidly approaching an extent where buyers have previously kept the market supported, bonds have been sturdy with the 10y gain down to 1.88% Wednesday. My bond shorts have long since become an awkward embarrassment. But still, they’ve barely been spectacular

As you can see, until late September and even as late as a couple of weeks ago, Germany traded at a positively tight spread to Sweden. The spread is now about 50bps. And that actually means that the condition of the Eurozone countries is worse than we deliberating, because while lots of focus has been on the widening of spreads versus Germany, Germany herself has been behaving less and less like the top-nobility credit of the EU. (Switzerland, which isn’t in the EU either, beats them all with a 10-year give way of 0.83%). And that’s concerning, because as I said before we all know that the hopes of Europe now start and end with Germany.

What about Germany’s hopes?

I am not steady what yield, or spread over Sweden, or other indicator will awaken Germany to the peril of being the Continent’s sugar daddy. But the peddle seems to be saying that Germany faces a choice between being a prime credit, and saving the euro. Which does she requisite? To financially annex other nations and their rotten banking institutions, running their policies from Berlin, in array to establish German hegemony in Europe? Or to preserve the well-being of her own citizens, and trying to be a untroubled and helpful neighbor? I don’t know that there is a middle ground any more.

I am still of the opinion that it is importance buying some stocks if the S&P drops back below 1100, which is looking increasingly likely. I am considerably underweight my ‘uncommitted’ allocation, and not unhappy about that; however, if the market declines appreciably more than it has already then I will do some bargain shopping and get closer to withdrawn. I continue to hold my bond short, but only because it isn’t a large position. I may add to it after the fancy weekend. I remain overweight in commodity indices.

Source: Seeking Alpha