An Updated Look at Europe’s Sovereign Debt Woes

An Updated Look at Europe’s Sovereign Debt Woes

Dave Rosenberg touched on the subject of Europe today in his daily missive:
Ireland, Greece and Portugal are basically insolvent and we will probably find out in due course that while these countries are too big to fail, and Spain is too big to rescue – this saga is far from over.

I thought this would be worth a deeper dive into the details.

Over at Bloomberg, we’ve got some “inside sources” saying that the European Central Bank bought Irish, Portuguese, and Greek bonds today:

The European Central Bank bought Irish and Portuguese government bonds today, according to at least four traders with knowledge of the transactions.

The ECB also purchased Greek debt, said another person, who asked not to be identified because the deals are confidential. An ECB spokesman in Frankfurt declined to comment.

The central bank also bought Irish and Portuguese bonds yesterday, according to traders. ECB President Jean-Claude Trichet said then that the bond-buying program was ongoing.

“The timing for these reported bond purchases is perfect,” said Peter Chatwell, a fixed-income strategist at Credit Agricole Corporate & Investment Bank in London. “The ECB is buying in an extremely illiquid year-end market. Its purchases are always going to move the market in a big way. It remains to be seen what the ECB will do into the new year when the market is liquid again.”

As expected, this narrowed yields (more details in this Bloomberg piece here).

Portuguese government bond yields dropped 27 basis points to 6.04 percent, after the spread with bunds narrowed to less than 3 percentage points, or 300 basis points, for the first time since Aug. 24.

Greek 10-year bonds rose, sending the yield down 10 basis points to 11.75 percent, even after Standard & Poor’s placed the nation’s BB+ long-term sovereign rating on “Creditwatch” with a negative outlook. European Union sovereign bonds beginning in July 2013.

But before we get too excited about PIGS Salvation, let’s put these spreads in perspective.

Greece’s 10 Year – yikes:

Greece 10 Year Bond Yields Chart 2011Source: Bloomberg

Ireland – double yikes:

Ireland 10 Year Bond Yields Chart 2011

Source: Bloomberg

Portugal – triple yikes!  Though the recent breakout has been tempered the most by the ECB’s purchases:

Portugal 10 Year Bond Yields Chart 2011Source: Bloomberg

And finally – our star of the show, the debt that’s likely to take the whole ship down – Spain!

Spain 10 Year Bond Yields Chart 2011

Source: Bloomberg

According to our good friend and correspondent Dr. Evil, an experienced bond trader, Spain is the one to watch.  And Rosenberg appears to agree.

And to seal Spain’s fate, we turn to Spanish Finance Minister Elena Salgado, who went on record today that Spain will not need a bailout:

“We think that our fundamentals are doing well,” she said in an interview with BBC Radio 4. “We are doing all that we had committed to do, our fiscal adjustment is on track. We have done all the things that we have to do with our financial sector, that is in a strong restructuring process.”

Salgado said that “you cannot in the long term have a common currency without a common economic policy.” Asked whether German voters should be unhapy about having to fund bailouts, Salgado said that the euro “has benefits for all of us.”

(Source: Bloomberg)

If that isn’t a kiss of death, I don’t know what is!

But Salgado may be wrong about Germany as well.  Dr. Evil pointed out to me that there are currently ongoing lawsuits in German constitutional courts that may indicate Germany would block any additional funds from being routed towards Spain (and recent actions would indicate the Germans are in no mood to bailout anyone else – see their quick dismissal of a recent proposal to double Europe’s rescue fund for sovereign debts).

If Spain goes down,and Germany passively watches, then look out below – Europe would be in for some massive debt deflation pain.