It’s been another turbulent week in the European credit market, especially the sovereign CDS market. Here’s this weeks market wrap by vice president Gavan Nolan at Markit Credit Research.
“The difference between the Markit iTraxx Europe and the Markit iTraxx SovX Western Europe is now about 40bp, and was as high as 50bp last week. This is even higher than the panic-ridden days of early May.”
Sovereign CDS spreads have underperformed their corporate counterparts in recent weeks, the seemingly interminable problems of the euro zone’s periphery continuing to affect sentiment.
While the corporate sector has taken its cue from rallying stock markets, the sovereign world has been preoccupied with its own, familiar problems.
Their divergent fortunes can be seen by comparing the main benchmark indices for the respective asset classes.
The difference between the Markit iTraxx Europe and the Markit iTraxx SovX Western Europe is now about 40bp, and was as high as 50bp last week.
This is even higher than the panic-ridden days of early May.
, of course
Greece, of course, was the driving force behind the sovereign widening during that period.
But the Hellenic Republic has faded into the background over the last few weeks, and has been one of the better performers among the peripheral countries (though its spreads are still trading around 800bp).
This time around it has been the western side of the periphery that has been causing volatility.
The Sudden Collapse
But how Ireland is going to resolve these problems is far from clear, and it is this uncertainty that has contributed to the recent widening.
Rumors of a possible EU/IMF intervention last Friday caused its spreads to breach the 400bp level.
This week it has gone even further and on Thursday morning spreads exceeded 500bp for the first time.
What has caused this sudden credit deterioration?
Of the three problems above, the latter two are causing the first to get worse.
In particular, the fate of Anglo Irish Bank is weighing heavily on the sovereign’s credit standing.
The state has poured funds into the failed bank but investors are concerned that the eventual cost of the bailout will be too great for the country to bear.
Rumors abound that bondholders will be forced to share some of the pain.
The government has strenuously denied that senior debt will be restructured. Subordinated debt, on the other hand, is another question, and Finance
Minister Brian Lenihan’s denials on this issue have been less than emphatic.
Double-Dip Or Depression?
Ireland’s GDP figures on Thursday only added to the negative sentiment. The country’s economy shrank by 1.2% in the second quarter, confounding expectations of a small rise.
On a GNP basis – a more useful measure because of the high concentration of foreign multinationals – the economy shrank by 0.3%.
It could be seen as a double-dip recession, although former Citibank economist Michael Burke described the country’s predicament as an austerity-induced depression in a Guardian article today.
Expect the new UK Labor Party leader – due to be announced tomorrow – to
use Ireland as a stick to beat the coalition government.
Ireland’s dedication to austerity has not been matched by most of the other peripherals.
Portugal, in particular, has had problems getting its deficit under control.
The country’s minority government suffered a blow yesterday when its 2011 budget was blocked by the opposition party.
Investors are becoming increasingly concerned that the political class is unwilling or unable to get control of public finances.
The markets now view Portugal and Ireland as a more vulnerable subset of the peripheral sovereigns, the bifurcation of spreads making this clear.
Long Way To Go
There has been some stabilization in spreads today in a relatively bullish end to the week.
But the problems of Ireland and Portugal are a long way from being solved, and will continue to influence spread direction in the coming months.
Next week they will jostle for attention with key economic releases.
On Friday there is the Markit manufacturing PMIs and ISM survey and, of course, non-farm payrolls.
All will be closely watched given that data releases over the next few weeks will determine whether the FED goes ahead with the next stage of quantitative easing.
By Gavan Nolan
Markit Credit Research
- Ireland Credit Risk Jumps to Record on Anglo Bondholder Concern (businessweek.com)
- Bunds Rise on Issuance Cut; Irish Bonds Drop on Growth Outlook (businessweek.com)
- 24 hours in the sovereign debt market (ftalphaville.ft.com)