Over the weekend, rumors abounded of a 600 billion-euro International Monetary Fund (IMF) bailout for Italy. Italian newspaper La Stampa reported the "news"… which the IMF quickly denied. "There are no discussions with the Italian authorities on a program for IMF financing," an IMF spokesperson said.
La Stampa claimed the IMF could loan Italy the money at 4%-5%, giving the country 18 months to solve its problems (current yields are greater than 7%, the level that triggered bailouts for other European Union countries).
However, subsequent reports from both Moody's and the Organization for Economic Co-operation and Development (OECD) reversed the brief, bullish sentiment surrounding Europe…
We've said for years that the major credit-rating agencies are lagging indicators. These companies, though their job description would indicate otherwise, are perpetually "the last to know." Regardless, the market still heeds their advice. If you've read anything we've printed for the past year, the following excerpts from Moody's report should sound familiar. We can only hope that Moody's isn't honestly coming to these realizations for the first time...
"The continued rapid escalation of the euro area sovereign and banking credit crisis is threatening the credit standing of all European sovereigns," Moody's said. "While the euro area as a whole possesses tremendous economic and financial strength, institutional weaknesses continue to hinder the resolution of the crisis... The euro area is approaching a junction, leading either to closer integration or greater fragmentation."
The report concludes, "The probability of multiple defaults by euro area countries is no longer negligible. A series of defaults would also increase the likelihood of one or more members not simply defaulting, but also leaving the euro area."
Meanwhile, the OECD report called Europe "the key risk to the world economy." To summarize, this report called for central banks to print more money.
So far, one major European bank, Dexia, has failed. Our bet is UniCredit, Italy's largest bank, is next. European banks are being shut out of the credit markets. And they will have no way – barring government intervention – to refinance the bad debt on their balance sheets. As Porter explained in the September issue of Stansberry's Investment Advisory…
|
[M]uch of the funding for Europe's banks comes from U.S. money-market funds and the interbank market. Only about 54% of their capital comes from their customers. A large amount of their capital – 33% – comes from sources that would transmit the crisis to America. The wholesale credit market in Europe comes from U.S. money-market funds. Europe's interbank market touches major U.S. money center banks. How will American creditors respond to the crisis? |
|
By the end of 2012, Europe's banks will have to refinance more than $8 trillion in wholesale funding, mostly from U.S.-based money market funds. What if the crisis in Greece spills over into European banks? Will these lenders be willing to lend into a crisis, where there's so little equity remaining in the books and so little political confidence in the European Central Bank? |
|
My bet is no. |
European banks have sold $413 billion in bonds this year. That's only two-thirds of the $654 billion in bonds that will mature this year, leaving banks with a $241 billion funding gap... This is the first time European banks haven't been able to roll over maturing debt in at least five years. Next year, $720 billion of bonds will mature.
If the market won't fund these banks, who will? We all know the answer is the European Central Bank (ECB), the Federal Reserve, and the world's other major central banks. They will provide a flood of cash larger than we've ever seen – even larger than the subprime crisis. Somebody should explain this to Italy...
To spur demand for its ailing bonds, the Italian Banking Association (IBA) launched its "buy a bond" program today. The purpose of the program – known as BTP Day – is to "give Italian citizens a clear sign of commitment to the country," according to an IBA spokesperson.
Calls for citizens to give their governments money as a show of patriotism make us sick. It's no secret that governments steal. But when they try to coax their constituents into giving them money – especially in return for debt instruments they know to be garbage – it's a whole new level of sleaze.
In case the Italian government alone can't convince the people to buy bonds, it's enlisted the help of the Italian national soccer team. "Some of us are selected to play for Italy, but all of us support our country and above all, we believe in its strengths," said former national soccer player Damiano Tommasi, now head of the Italian footballers' association. "That's why we are joining BTP Day on Monday."
Italy is auctioning 8 billion euros of bonds tomorrow. We'll see how the initiative performs.
Mohamed El-Erian, co-CEO of bond powerhouse PIMCO, wrote a good piece on Europe for CNBC. He discussed the ailing European nation's recently inverted yield curves, when short-term debt is yielding more than long-term debt…
|
Curve inversions are often seen as indicative of a potential tipping point – when market perceptions of a liquidity problem risk turning into self-fulfilling solvency concerns. As such, there is nothing good associated with last week's curve inversion in Italy, the third largest bond market in the world. |
|
With the two-year interest rate on Italian bonds surging towards 8%, the yield differential with the 10-year ended the week at an inverted 60 basis points. Judging from what has happened in other European economies (namely, Greece, Ireland and Portugal), a prolonged inversion would materially increase the risk of Italy losing market access and having to seek a bailout. |
El-Erian also noted deterioration in Europe's core countries. The yield on German 10-year bonds jumped 30 basis points (bps) to 2.26%. And the French five-year credit default swap – insurance against default – widened 28 bps to 250 bps… a 74 bps increase this month alone.
El-Erian's conclusion is similar to ours... As these problems worsen, even core European nations won't be able to borrow. Money will leave the entire region. This is a trend not even the Italian soccer team can reverse.
What good would we be if we bombarded you with negative economic news without providing some solution? To repeat once more, you should own gold and silver bullion (not exchange-traded funds). Gold and silver are both up today in anticipation of new bailout measures.
You may also want to consider buying discounted corporate bonds. As Porter has said many times… "If I could do one thing for every single subscriber, it would be to give them the confidence and the knowledge to buy just one corporate bond trading at a discount."
"Junk bonds," another name for discounted corporate bonds, are on pace to outperform U.S. equities for the fifth year in a row... Since October 2007, junk bonds have returned 34%. Meanwhile, the S&P 500 dropped 19%. That's an incredible outperformance.
As global economies continue to melt down, we believe more money will leave equities for bonds. After all, Porter believes most people who buy bonds "will stop buying stocks altogether." Luckily, True Income editor Mike Williams, our most experienced analyst, has a portfolio of the best high-yield bonds in the market today. To learn more about his service and start buying bonds, click here...
|
New 52-week highs (as of 11/25/11): short sales of First Solar (FSLR) and Salesforce (CRM).
It's nice to know our warnings about Europe are not going unheard. Send your feedback to feedback@stansberryresearch.com.
[True Wealth's Steve Sjuggerud's comments are] nice, neither too sweet nor too incredible to believe. Alliance membership has made me, a supposed professional, a better investor. No one is too 'professional' to learn." – Paid-up subscriber Jim Pursley
Goldsmith comment: Jim, we humbly agree that Steve's been one of the best in the financial newsletter industry for years. If you haven't tried out his work... a great introduction to Steve's writing is through a subscription to DailyWealth Premium. For $5 a month, you can get Steve's commentary on the best ideas produced by S&A analysts. You will not find a better value than DailyWealth Premium anywhere in the advisory business. To learn more, click here.
"Today's [November 11] Digest is the finest 'ECON 101' report I've ever read. It should be published on the front page of every newspaper in the country, as well as being read aloud on every TV and radio station. IMO this is the finest article you've written. You've done a great service to your readers by simplifying this whole mess. Thank you for your wisdom," – Paid-up subscriber Bill Williamson
Regards,
Sean Goldsmith
New York, New York
November 28, 2011
The IMF bailout farce... Moody's wakes up to Europe... Euro banks can't fund the gap... Italy's soccer team to the rescue... El-Erian weighs in... Junk bonds are killing stocks... Central banks are easing...