From undershooting to overshooting. Somewhere in the middle, probably lies the “truth”. From VoxEU.org on the mis pricing of sovereign risk.
It is widely acknowledged that Eurozone financial markets were systematically wrong from 2001 to 2008 when they charged the same risk premium on Greek and German government bonds despite huge differences in their debt-to-GDP ratios.
Today, the same markets are applying huge spreads on Greek and other Eurozone government bonds. Many economists view today’s spreads as correct. But why – if markets were systematically mispricing risks from 2001 to 2008 – should we believe these same markets have suddenly found the truth? (See Attinasi et al 2010 on this site for how quickly the spreads widened.)
Since the last Global Financial Stability Report (GFSR), risks to stability have increased, despite various policy steps to contain the euro area debt crisis and banking problems. European policymakers have outlined significant policy measures to address the medium-term issues contributing to the crisis, and some of these have helped to improve market sentiment, but sovereign financing remains challenging and downside risks remain. If funding challenges result in a round of deleveraging by banks, this could ignite an adverse feedback loop to euro area economies. The United States and other advanced economies are susceptible to spillovers from a potential intensification of the euro area crisis, and some have homegrown challenges to the removal of financial tail risks, including overcoming political obstacles to achieving an appropriate pace of fiscal consolidation. Developments in the euro area also threaten emerging Europe and may spill over to other emerging markets. Further policy actions are needed to restore market confidence. This effort will require building larger backstops for sovereign financing, assuring adequate bank funding and capital, and maintaining a sufficient flow of credit to the economy, possibly by establishing a “gatekeeper” charged with preventing disorderly bank deleveraging.
Despite the falling volumes trend lately, markets are still dominated by HFT Algos running the show. Observations from Nanex.
Beginning around January 10, an algo running in a over 80 stocks turns on at 9:45, then off at 9:58, and back on again at 10:02. When this algo is running, the quote rate increases 10-fold and the occurrence of a locked or crossed NBBO increases significantly. The bid-ask spread also increases. The additional blast of quotes seems to come only from 4 exchanges: Nasdaq, BATS, NYSE and NYSE-Arca. In each of the charts, the occurrence of a locked or crossed market is much higher when the algorithm runs. Note the stark contrast of the 9:58 to 10:02 period (when the algo is off) compared to the time before and after.
With markets fading some during today’s session, the bulls will soon be looking to take some profit. Markets have run up on very light volume, and people feel somewhat uneasy with the markets trading at these levels, while no mess is fixed. We have not really had any bad news lately, and the question is, how would the market react to some not expected bad news. The Geopolitical space has been very calm, but that could change abruptly. Iran could resurface as the main geopolitical risk sooner than many think. We learnt about the Strait of Hormuz some days ago, but there is more. From Bllomberg;
One of the arguments often made in favor of bombing Iran to cripple its nuclear program is this: The mullahs in Tehran are madmen who believe it is their consecrated duty to destroy the perfidious Zionist entity (which is to say, Israel) and so are building nuclear weapons to launch at Tel Aviv at the first favorable moment.
It’s beyond a doubt that the Iranian regime would like to bring about the destruction of Israel. However, the mullahs are also cynics and men determined, more than anything, to maintain their hold on absolute power.
On China’s aging population, its implications for the nation’s economy, and the investment opportunities it may create. The latest government census shows 178 million Chinese were over 60 in 2009. That figure could reach 437 million, one third of the population, by 2050, the United Nations forecasts. While the elderly were looked after in the past by their children, urbanization and the nation’s one-child policy have eroded the tradition of family care. (Bloomberg).
As The Trader has been arguing lately, Greece is yesterdays news. Focus will be shifting away from Greece. Italy has not seen the real “stress test” yet. There is more to come from Italy. Spain is not fixed just because they managed stuffing ECB with bonds. We believe the Spanish situation has not received the adequate attention. One of the bigger problems Spain faces beyond the unemployment problems etc, is the property sector. Despite having come off 20-30%, people still won’t realize these valuations are too high. The properties carried by the banks would simply put black holes in the balance sheet’s, if they would be valued at any realistic price. The only thing happening as of now, is the slow death, instead of dealing with the problem, ie taking the stop and recapitalizing (something like Unicredit just did). If you wish selling out anything “bigger” in Spain, it has to be done at fire sale prices. Same logic applies to properties, airports etc. Spain just suspended the privatization of the airports. Austerity sucks, especially when you can’t even sell out the good stuff in order to raise capital. From WSJ;
The previous Socialist government had hoped to raise at least €5 billion ($6.46 billion) from the privatization of the Madrid and Barcelona airports, part of its efforts to ease the country’s debt burden. But the new conservative government of Prime Minister Mariano Rajoy objected to the plan on the grounds that it could get only fire-sale prices as Europe’s sovereign-debt crisis continues to roil financial markets.
The European Union approved a ban on oil imports from Iran, overcoming misgivings about the economic hardship of its members to take its strongest measures yet to press Tehran into concessions on its nuclear programme, http://ftalphaville.ft.com/thecut/2012/01/24/847101/eus-iran-embargo-sends-oil-up-rial-down/
Japan will probably miss its goal of balancing the budget by fiscal 2020 even if it doubles the nation’s sales tax, according to government estimates, reports Bloomberg. The country will have a primary deficit of 3.1 per cent of GDP in the year, http://ftalphaville.ft.com/thecut/2012/01/24/847031/japan-to-miss-budget-goal-and-record-trade-deficit/
Orange juice prices hit an all-time high as worries over a possible US ban on Brazilian imports after the discovery of fungicide traces at the end of last year fuelled more speculative buying, the FT reports. http://ftalphaville.ft.com/thecut/2012/01/24/847021/orange-juice-hits-all-time-high/
Eurozone finance ministers on Monday night rebuffed a deal presented by private owners of Greek debt as a “maximum” offer for the losses they are willing to sustain, opening a fresh round of brinkmanship in tortuous negotiations to ease the country’s debt load, http://ftalphaville.ft.com/thecut/2012/01/24/846801/santer-to-head-efsf-spiv/