Here’s a clip from my CNBC Asia Guest Hosting slot last night. We talked about the EU Summit and my outlook plus levels for EUR
You may have read that European bond spreads have widenend to record levels but how bad is that really? To put everything into perspective, investors are demanding more premium to lend to Ireland, Portugal and Spain than to emerging countries in Europe and Asia. To be more specific, these 3 European countries that have made headlines on a daily basis are now considered less credit worthy (or are assumed to be a greater risk) than Romania, Lebanon, Vietnam and Indonesia. The following table shows the current 5 year credit default swap spreads for some of the major countries. Triple A rated countries such as the U.S., Switzerland, Germany, Denmark and Sweden have swap spreads less than 50bp.
For those of you that are unfamiliar, the Credit Default Swap (or CDS) spread is the premium paid by a protection buyer to the protection seller over a length time. If a default occurs, the protection seller would have to cover the losses. The CDS spread is quoted in basis points per annum of the contract’s notional amount.
In case you are curious, the two countries that have the lowest CDS swap spreads and are therefore considered the most credit worthy are Norway and Finland.
A great deal of discussion has been had about whether or not Ireland needs a bailout. However as currency traders, what is important to us is how the euro could react if the speculation becomes reality and history can be particularly useful for this purpose.
Greece received a record breaking bailout the weekend of May 2nd . On the first trading day after the bailout announcement was made, the EUR/USD plunged 100 pips which is not that significant but over the course of that week, it fell as much as much as 750 pips. Between May 3rd (the Monday after the announcement) and June 7th , the EUR/USD fell approximately 10 percent. However, as sovereign debt worries receded and Greece faded from the minds of global investors, the EUR/USD stabilized and began a risk assumption rally that brought the currency pair from 1.20 to 1.42. This means there is first panic and then stability.
The euro rebounded this morning thanks in part to the new details released on the EU/IMF Rescue Plan. Reuters put together a VERY good synopsis dissecting how the plan works :
Below are details of the European Stabilisation Mechanism, which includes the European Financial Stability Facility, and how it could be used.
HOW MUCH MONEY IS AVAILABLE?
500 billion euros from the European Union and at least 250 billion euros from the International Monetary Fund, making 750 billion euros in total, or about $1 trillion. The EU money is divided into a 60 billion pot for all EU members and a 440 billion euro pool for the 16 members of the euro zone.
LENGTH OF THE PROGRAMME
The 60 billion euro pot will be in place as long as necessary to safeguard the bloc’s financial stability. The 440 billion euro facility, called the European Financial Stability Facility, is set up for three years.
WHAT IS THE LEGAL BASIS FOR THE AID?
EU law forbids the EU and its members from assuming the debt of other EU members. Therefore the aid is in the form of loans, which have to be repaid with interest, not grants.
EU law says a council of EU ministers can grant financial assistance to a member state in difficulties that are caused by exceptional circumstances beyond its control.
HOW DOES IT WORK?