It is all (still) about Europe, although investors are getting tired of the “old” story. When will Spain stop imploding, what about Greece, will the core be immune?
All the above questions and a few more are keeping Merkel busy. The question is, should Germany hold a referendum? From Spiegel.
Chancellor Angela Merkel wants Europe to move toward an ever closer union in a bid to solve the euro crisis. But she is already pushing at the limits of what is possible under the constitution. The debate about holding a referendum on transferring power to Brussels is gathering momentum in Germany.
Indeed, the chancellor is in a tricky position at the moment, as she fails to get the euro crisis under control. Of course, the Economist’s notion of a secret plan to break up the euro zone is purely fictitious. But it fits into the current debate, where more and more politicians from Germany’s coalition government are talking about radical steps to solve the euro crisis.
Mutualising sovereign bonds is equivalent to forming a linear combination of the underlying bonds, i.e. a portfolio of them. Hence the risk associated to the portfolio is a function of the risks of the constituents and their correlations.
- In tranquil periods these risks have a linear nature,
- In periods of turmoil non-linearities appear, namely due to extreme events, that induce non-linear -or tail- risks.
Figure 1 shows the quarterly cross-sectional average correlations (from 2005Q1 to 2012Q2) for the Sovereign bond yields of all the Eurozone countries (solid blue), the core countries (dotted red), the peripheral countries (doted and dashed green), and the peripheral countries but Greece (dashed purple).
Prior to the crisis correlations were very close to unity, reflecting the almost perfect co-movements among the yields. Since the beginning of the crisis the correlations have sharply decreased for all countries and groups of countries. From a risk perspective, the creation of the Eurobonds may be seen as appropriate since the benefits (creditworthiness, resilience, stability, and liquidity) offset the slight increase of risk associated to the small correlations.
The “risk on/risk off” barometer moved back in the direction of “risk off” during April, as U.S. 10-year Treasury securities turned in the best investment gains (in U.S. dollar terms) during the month. The 2.8% jump in the value of the Treasury securities came despite the almost universal perspective on the part of professional investors that the 30-year bull market for bonds is finally sputtering to a halt and that eventually interest rates will begin to climb. Investors displayed a clear bias in favor of assets that not only generated income but also offered them security – in other words, bonds of various kinds were the only major asset classes to end the month in the black.