Credit default swaps on European banks widen even as share prices rise

[ASH]

The Telegraph reports:

Insurance on the debt of several major European banks has now hit historic levels, higher even than those recorded during financial crisis caused by the US financial group's implosion nearly three years ago.

Credit default swaps on the bonds of Royal Bank of Scotland, BNP Paribas, Deutsche Bank and Intesa Sanpaolo, among others, flashed warning signals on Wednesday. Credit default swaps (CDS) on RBS were trading at 343.54 basis points, meaning the annual cost to insure £10m of the state-backed lender's bonds against default is now £343,540.

The cost of insuring RBS bonds is now higher than before the taxpayer was forced to step in and rescue the bank in October 2008, and shows the recent dramatic downturn in sentiment among credit investors towards banks.

...

Despite this, bank shares rebounded on Wednesday, showing the growing disconnect between equity and credit investors. RBS closed up 9pc at 21.87p, while Barclays put on 3pc to 149.6p despite credit default swaps on the bank hitting a 12-month high. This mirrored the US trend, with Bank of America shares up 10pc in late Wall Street trade after a hitting a 12-month low on Tuesday over fears that it might have to raise as much as $200bn (£121bn). As with the European banks, the rebound in the share price was not reflected in the credit markets, where its CDS reached a 12-month high of 384.42 basis points.

Which market is right?

My interpretation is that the market in CDS reflects concerns that neither Eurobonds nor an expansion of the EFSF will be approved, and that the ECB's support of Spanish and Italian bonds will prove limited. To my eye (which may be overly pessimistic), the stock markets are focused solely on hopes of some form of a Bernanke put.

[astonas]

Re: Credit default swaps on European banks widen even as share prices rise

[URL="http://www.telegraph.co.uk/finance/financialcrisis/8721151/Market-crash-could-hit-within-weeks-warn-bankers.html"]My interpretation is that the market in CDS reflects concerns that neither Eurobonds nor an expansion of the EFSF will be approved, and that the ECB's support of Spanish and Italian bonds will prove limited. To my eye (which may be overly pessimistic), the stock markets are focused solely on hopes of some form of a Bernanke put.

You could be right, ASH. But before you make up your mind, here's what Handelsblatt is saying:
http://www.handelsblatt.com/politik/international/bundestagspraesident-blockiert-schaeubles-blankoscheck-plaene/4533824.html

Laut einem streng vertraulichen Dokument, das dem Handelsblatt vorliegt, will der Finanzminister vom Bundestag nur eine Art Blankoscheck einholen, damit der Euro-Rettungsschirm EFSF künftig Schuldenstaaten vor dem Bankrott bewahren darf. Die Parlamentarier sollen einzelnen Rettungspaketen so nicht mehr zustimmen müssen - das Haushaltsrecht des Bundestags würde so teilweise nach Brüssel verlagert.

Translation (my own, sorry for any mistakes):

According to a strictly confidential document, obtained by Handelsblatt, the finance minister will request only one option - a kind of blank check - to rescue the Euro-wide EFSF intended to save future states from bankruptcy. This would mean that parliamentarians' individual rescue packages would no longer have to agree - the budget law of the Federal Parliament would partially relocated to Brussels.

The fact that the 41-page document was leaked (and is now causing much commotion) of course makes it harder to pull off the move. However, the fact that a possible end-run around parliamentary procedure may exist, and that an all-or-nothing vote may be forced, does point to the notion that the German government has been holding something up its sleeve here.

The secret document was only sent to 5 senior German politicians, so presumably one of them was sufficiently offended by this avoidance of democratic process as to leak the plan, hoping to thereby scuttle it. It remains to be seen whether the trick can still be successfully employed.

[llanlad2]

Re: Credit default swaps on European banks widen even as share prices rise

My interpretation is that the market in CDS reflects concerns that neither Eurobonds nor an expansion of the EFSF will be approved, and that the ECB's support of Spanish and Italian bonds will prove limited. To my eye (which may be overly pessimistic), the stock markets are focused solely on hopes of some form of a Bernanke put.

I think you're bang on the money with this interpretation. The Germans can't be relied upon to backstop the Euro.

1. They may be politically hamstrung as the German parliament may not approve it.
2. The court ruling regarding the legality of buying bonds may rule it illegal.
3. The Germans are being high and mighty viewing the problem purely as one of fiscal irresponsibilty on the part of Club Med.The Germans may attach too many strings to any rescue mechanism which proves unacceptable to Italians and Spaniards anyway thus killing any desire to backstop the Euro.

I came across this (rather dry) article which outlines the above in more detail.

What Germany wants
11.03.2011

Germany is pivotal in this process because it is the main backstop to the system. This is why we are focusing on Germany in this briefing note.


There is no such thing as a unified German negotiating position, but a series of political positions and legal constraints, which in their entirety form a single position presented by Angela Merkel in the European Council. This is why the cacophony of German statements on the crisis can seem confusing to outsiders. In this briefing we explain what Merkel is likely to demand.


The first thing to note is Germany’s definition of this crisis:

A crisis of imbalances, caused by weak competitiveness of peripheral Europe.
A fiscal crisis, due to either direct fiscal indiscipline in the case of Greece, or irresponsible financial policies that triggered excessive fiscal guarantees, as in the case of Ireland and Spain.



Germany’s priority is to solve those two crises simultaneously, and thus indirectly to limit its liabilities due to its pledge to “whatever it takes” to save the eurozone. Germany is prepared to support the EFSF and the ESM as effective crisis mechanisms, but wants to ensure at the same time that these mechanisms are hardly ever used. Politically, Merkel will only be in a position to sell a crisis resolution mechanism if she can convince her various constituents that the EU has taken effective action to reduce the threat of future crises.


Germany thus wants a strong competitiveness pact – and a restrictive EFSF/ESM. On the latter Germany continues to insist on the ultima ratio principle – that EFSF/ESM can only help when an emergency has already arisen, and when there are no alternatives. Germany’s is adamantly opposed to any suggestion of “precautionary credit lines”, or the issue of indiscriminate primary market guarantees. This would almost certainly be rejected by the German constitutional court. The ultima ratio principle is the most important principle Merkel must uphold for legal reasons.


But within this framework, there is a greater degree of flexibility than generally acknowledged. While Germany rejects the notion of secondary market bond purchases through the EFSF/ESM on the grounds that this would quickly exhaust the EFSF’s funding ceiling, the German government, at least, accepts the principle of primary purchase in principle – but only as part of a package that fulfils the above-mentioned criteria. German acceptance is thus dependent on acceptance of the package as a whole. That would include a debt function in the stability and growth pact, adamantly rejected by Italy, and the acceptance of a national debt brake – likely to be accepted by the eurozone summit today. The German government in particular accepts the argument that primary market operations would allow the recipient country not to be cut from the capital markets. The condition for any primary market purchases – as for EFSF/ESM loans – would be an agreed restructuring/austerity programme.


Germany even accepts the principle of credits for the purpose of bond repurchases. But Germany thinks that the ECB might raise serious objections to such schemes, as this could be construed as an EFSF/ESM led debt restructuring. Germany also recognises the problem that such a scheme could be construed as a quasi-default.


It is noteworthy that Germany’s position both on primary market purchases, as well as on bond repurchases is more open than generally portrayed in the press, but please note the conditionality. German officials are not optimistic that the conditionality is likely to be met. In fact, German officials are currently trying to lower expectations of a grand bargain, as the negotiations have hit difficulties on various fronts. Germany is prepared to offer those concessions only as a quid pro quo.


On Irish interest rates: The German government accepts, in principle, a cut in the Irish EFSF interest rates, but wants something in return. Merkel has spoken about an Irish agreement to accept a eurozone agenda on tax base harmonisation (which does not mean that Ireland will have to increase the tax rate, but agree on a common standard of what is being taxed). Germany will not accept an Irish rate cut without any quid-pro-quo.


The Bundestag will vote on, and is likely to pass, a resolution which says that it expects the government to reject any bond market operations, primary and secondary. Wolfgang Schäuble has been quoted in the media as saying that it is the nature of expectations to be disappointed. In reality, the government has some leeway, but it cannot completely ignore the Bundestag on whose votes it depends. For that reason, the German negotiating position is relatively inflexible beyond the points stated in this briefing.


Germany continues to oppose any form of default/restructuring/rescheduling of debt until 2013. The German government is on this point in agreement with the ECB (which wants to rule it out even beyond that date). This approach is based on the hope that the factors that make a default too risky now would have disappeared by 2013, in particular that the banking system will have been sufficiently restructured as to be able to weather the losses that would result from debt rescheduling. The position obviously leaves no room for further surprises (failure to meet the goals set out in the austerity programmes – already apparent in Greece; no unexpected budgetary holes, as in Greece, and likely to be revealed in Portugal as well; political opposition; further rating agency downgrades; further financial market panic).

[ASH]

Re: Credit default swaps on European banks widen even as share prices rise

The secret document was only sent to 5 senior German politicians, so presumably one of them was sufficiently offended by this avoidance of democratic process as to leak the plan, hoping to thereby scuttle it. It remains to be seen whether the trick can still be successfully employed.

Perhaps the senior politician in question was Christian Wulff?

It seems to me that there is a pretty strong nucleus of political and institutional opposition to Eurobonds and further bailouts forming in Germany (although the quotations mainly address questionable actions by the ECB rather than fiscal agreements).

“I regard the huge buy-up of bonds of individual states by the ECB as legally and politically questionable. Article 123 of the Treaty on the EU’s workings prohibits the ECB from directly purchasing debt instruments, in order to safeguard the central bank’s independence,” he said.

“This prohibition only makes sense if those responsible do not get around it by making substantial purchases on the secondary market,” he said, speaking at a forum of half the world’s Nobel economists on Lake Constance to review the errors of the profession over recent years.

Mr Wulff said the ECB had gone “way beyond the bounds of their mandate” by purchasing €110bn (£96.6bn) of bonds, echoing widespread concerns in Germany that ECB intervention in the Italian and Spanish bond markets this month mark a dangerous escalation.

...

The blistering attack follows equally harsh words by the Bundesbank in its monthly report. The bank slammed the ECB’s bond purchases and also warned that the EU’s broader bail-out machinery violates EU treaties and lacks “democratic legitimacy”.

The combined attacks come just two weeks before the German constitutional court rules on the legality of the various bailout policies. The verdict is expected on September 7.

The tone of language from two of Germany’s most respected institutions suggests that both markets and Europe’s political establishment have been complacent in assuming that the court would rubberstamp the EU summit deals in Brussels.

[astonas]

Re: Credit default swaps on European banks widen even as share prices rise

Perhaps the senior politician in question was Christian Wulff?

Could be. But coming out with his attack on the same day as the leak to Handelsblatt might be a little obvious. This is the sort of thing people get impeached for. Perhaps the leaker also sent him a copy, though.

[astonas]

Re: Credit default swaps on European banks widen even as share prices rise

(although the quotations mainly address questionable actions by the ECB rather than fiscal agreements).

True, but remember that Merkel and Sarkozy's (and Schäuble's) plan is for the European central government to take over real authority from the member states. Criticizing the central authority IS attacking the plan.

[astonas]

Re: Credit default swaps on European banks widen even as share prices rise

The fact that the 41-page document was leaked (and is now causing much commotion) of course makes it harder to pull off the move. However, the fact that a possible end-run around parliamentary procedure may exist, and that an all-or-nothing vote may be forced, does point to the notion that the German government has been holding something up its sleeve here.

The secret document was only sent to 5 senior German politicians, so presumably one of them was sufficiently offended by this avoidance of democratic process as to leak the plan, hoping to thereby scuttle it. It remains to be seen whether the trick can still be successfully employed.

I should also add that my personal opinion is that if the core planners had been able to surprise parliament with the single-option, all-or-nothing play, they might have been able to get away with it. But now that the ministers have until Sept. 7 to respond, and also until then to be pressured by their constituencies about the ethics of backroom dealings, I think this may have ended the rescue.

[llanlad2]

Re: Credit default swaps on European banks widen even as share prices rise

Well if the document does exist the possibility of it being passed has seemingly been denied by a member of the Christian Democrats as you astutely pointed out Astonas.

German Lawmakers to Refuse Ceding to EFSF, Handelsblatt Says

(the Source is Bloomberg)
Q

By Brian Parkin - Aug 24, 2011 1:45 PM GMT+0100

The euro region’s bailout fund won’t get blanket powers from the German parliament to help indebted nations, the president of the country’s lower chamber told the Handelsblatt newspaper, denying an earlier report.

Norbert Lammert, a member of the ruling Christian Democrats and parliament’s most senior lawmaker, said a report in the newspaper today citing plans by Finance Minister Wolfgang Schaeuble to pass parliamentary control over bailouts to the fund would “definitely not happen.”

Citing a “secret” ministry document, the Handelsblatt said Schaeuble wants the bailout fund, called the European Financial Stability Facility, to assume “general powers” to carry out rescues, sidestepping German budget laws.

German lawmakers have been asked to approve a national bill to expand the fund’s powers by Sept. 23. Lammert said parliament would take its cue in deliberations from a Sept. 7 court ruling on the constitutionality of bailouts.

However what is really interesting in the above to my mind is the final line. "Lammert said parliament would take its cue in deliberations from a Sept. 7 court ruling on the constitutionality of bailouts."

This would suggest that if bailouts were okayed by the court then German parliament would not have a problem passing what was suggested in the secret document.

[astonas]

Re: Credit default swaps on European banks widen even as share prices rise

It seems to me that there is a pretty strong nucleus of political and institutional opposition to Eurobonds and further bailouts forming in Germany (although the quotations mainly address questionable actions by the ECB rather than fiscal agreements).

No doubt. But until now the political structure and pressures from business were aligned against them. By being exposed in trying to find a back door to redistribute power, Merkel and Schäuble will have really stirred up a hornet's nest. It's much harder to go to your constituents and say "we saw the crook's game, and played along" than to say "those crooks gave us no choice! Shame on them!".

[llanlad2]

Re: Credit default swaps on European banks widen even as share prices rise

Does anyone else here get the impression that this "crisis" might be being (stage?) managed in much the same way as the debt ceiling debate/crisis in the US and that German backstopping is actually a fait accompli? Or am I just being paranoid? There is much talk of constituents but parliaments in Ireland and Greece ignored their constituents. Why will German politicians be any different? And let's not forget that the German people are still pro Europe even if they are anti-bailout so it can always be sold to the people on these terms. Especially if the bailout is ruled constitutionally legal by a supposedly impartial court.
My view is changing. The court will view it legal. The German parliament will then do whatever the hell it likes. Merkel will sacrifice herself for the Euro cause.

[astonas]

Re: Credit default swaps on European banks widen even as share prices rise

This would suggest that if bailouts were okayed by the court then German parliament would not have a problem passing what was suggested in the secret document.

They might indeed have passed it. But at this point, the democratic end-run could make the plan radioactive. Now, at the very least, parliament will have a chance to have its say, and all of ASH's fears about political paralysis will come into play again.

And remember that Lammert is with CDU. CDU does not have a majority of parliament; they'll need FDP (or some aisle-crossing from SPD) to get anything passed. With this development, FDP would be smart to distance themselves from the plan, so they won't be punished for it in the next election, claiming that CDU was hiding everything from them, as well as SPD. The fact that only 5 unnamed ministers saw it, and at least one leaked provides plenty of cover for this argument.

[astonas]

Re: Credit default swaps on European banks widen even as share prices rise

Does anyone else here get the impression that this "crisis" might be being (stage?) managed in much the same way as the debt ceiling debate/crisis in the US and that German backstopping is actually a fait accompli? Or am I just being paranoid?

That was precisely my thesis until today. I think the leak has blown this thing out of the "handlers'" control.

[unlucky]

Re: Credit default swaps on European banks widen even as share prices rise

The Telegraph reports:
My interpretation is that the market in CDS reflects concerns that neither Eurobonds nor an expansion of the EFSF will be approved, and that the ECB's support of Spanish and Italian bonds will prove limited. To my eye (which may be overly pessimistic), the stock markets are focused solely on hopes of some form of a Bernanke put.

Perhaps, but it's worth noting that the share price of e.g. RBS has halved in the past 3 months. It bounced just a little in the past 48 hours while CDS continued to rise. But on a longer timeframe the markets are in better agreement.

It seems the banks in Europe are becoming more reluctant to lend money to each other.
As we saw in the past, when the banks themselves are unwilling to punt money on the health of the banking system, their view can be taken as authoritative.

[llanlad2]

Re: Credit default swaps on European banks widen even as share prices rise

They might indeed have passed it. But at this point, the democratic end-run could make the plan radioactive. Now, at the very least, parliament will have a chance to have its say, and all of ASH's fears about political paralysis will come into play again.

And remember that Lammert is with CDU. CDU does not have a majority of parliament; they'll need FDP (or some aisle-crossing from SPD) to get anything passed. With this development, FDP would be smart to distance themselves from the plan, so they won't be punished for it in the next election, claiming that CDU was hiding everything from them, as well as SPD. The fact that only 5 unnamed ministers saw it, and at least one leaked provides plenty of cover for this argument.

It's great to have this input Astonas. Are you aware if the FDP/SDP are publically opposed to bailouts along a party line no matter what the circumstance? My reading thus far is if certain conditions are met then the FDP will relent to agreeing to bond buying/common bond especially if it places Germans at the centre of European decision making. How many FDP members would have to vote with the CDU to pass it and would all CDU vote in favour anyway?

[astonas]

Re: Credit default swaps on European banks widen even as share prices rise

There is much talk of constituents but parliaments in Ireland and Greece ignored their constituents. Why will German politicians be any different?

How many Germans do you know? ;-)