The Monday Report

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By Greg Peel

By Friday night, what had begun as a small protest from a group of students in Madrid a few days earlier had swollen into a mass protest across Spain against a capitalist government which is enforcing strict austerity measures to bail out, as the protesters see it, banks and businesses at the expense of workers, many of whom are now unemployed.

Yesterday Spaniards went to the polls in regional elections which are expected to deal a harsh blow to the incumbent party. A general election is not due until next year, but the expectation now is that an early election may be inevitable. While collectively the debt problems of Greece, Ireland and Portugal threaten the very structure of the eurozone, individually the impact is not overwhelming. Spain, however, is a different matter, being a much larger economy. Economists do not believe the EU-IMF have enough funds to bail out Spain were it to come to that.

Financial markets had this to contemplate on Friday night as a new issue arose with respect to calls for a “soft” restructure of Greek debt. A soft restructure, or “re-profiling” as it is being labelled, extends maturity which diminishes value to debt holders but does not force face value write-downs (haircuts) which could destabilise banks across Europe. The debate is now on, however, as to whether a “re-profiling” constitutes a “credit event” with respect to credit insurance.

A default is a clear credit event, and a restructuring in the form of haircuts is also considered under the rules to be so. Credit events trigger payouts to those holding credit default swaps (CDS). But does a soft restructure count as a credit event? No one's quite sure at this stage. CDS holders will obviously argue yes in which case restructuring may not be a viable option at all. One is reminded that while the GFC was triggered by collateralised debt obligations (CDO) it was ultimately the CDSs on CDOs which caused the meltdown. 

In recent sessions, Wall Street has closely been tracking the movement of the EUR-USD. If the euro plunges, the US dollar rises and stock indices fall. When the euro recovers, the Dow recovers. On Friday, ratings agency Fitch downgraded Greek debt further into junk status with an added negative watch. Greek bonds are now yielding about 25%, although it's academic because Greece will not be going to the market for funds any time soon. Throw in the CDS dilemma, and Spanish protests, and the scene was set for a steep euro fall.

The 1.1% plunge in the euro on Friday pushed the US dollar index up 0.7% to 75.66 and sent gold up US$19.60 to US$1513.50/oz in defiance of the dollar. The Dow fell 93 points or 0.7% and the S&P fell 0.8% to 1333.

Unfortunately for Australia, the Aussie remained reasonably steady at US$1.0668 despite the strong greenback. This likely reflects benign commodity price movements. A strong US dollar could have triggered more panic commodity selling but we've had quite a lot of that lately. As it was, Brent oil and West Texas oil each rose just under a dollar to US$112.39 and US$99.91/bbl respectively, base metals were mixed with copper up 1.5%, and silver was remarkably steady.

Metal traders in London nevertheless note that the speculators remain in selling mode. The reason prices are not thus falling further is that for once fundamentals are actually kicking in. Copper stocks in Shanghai fell 15% for the week to a seven month low. Real traders expect the recent price dip to be short-lived.

The SPI Overnight fell 39 points or 0.8%.

From the time Greek debt became an issue in early 2010, the biggest market falls have come as a result of dithering and disagreement among European leaders and officials over what to do about the PIIGS. Uncertainty is a bigger threat than unfortunate reality. So as we enter this trading week, we are back into uncertainty mode as Germany, France, Greece, the IMF and ECB all argue over Greek restructuring, CDS holders argue their case, and Spanish unrest intensifies. And you could probably throw in that President Obama managed to upset the Israelis after the markets closed on Friday by calling for a withdrawal to Israel's 1967 borders. We mustn't forget MENA.

The US Treasury will auction US$99bn of two, five and seven-year notes this week over Tuesday to Thursday at a time when US bond yields are low but safe haven issues again dominate. 

On the data front, tonight in the US sees the Chicago Fed national activity index and Tuesday the Richmond Fed manufacturing index along with new home sales. Wednesday it's durable goods and the FHFA house price index, and Thursday brings the first revision of the first quarter GDP result. The first estimate was 1.8% growth but economists are looking for a significant revision up to 2.2%.

Friday wraps up with pending homes sales, private income and expenditure and the fortnightly consumer sentiment survey.

It's an important week in Europe with the release of the eurozone composite PMI tonight, the influential eurozone IFO survey on Tuesday, and the first revision of UK GDP on Wednesday.

Today, HSBC will release its “flash” estimate of China's May manufacturing PMI.

In Australia we're building up to the release of our first quarter GDP next week with first quarter construction work done on Wednesday and first quarter capital expenditure and housing affordability on Thursday. Wednesday also brings leading economic indices for March from both Westpac and the Conference Board.

There are a large number of, mostly junior, AGMs this week with the large cap exceptions being Iluka ((ILU)) and Westfield ((WDC)) on the Wednesday.

Rudi's regular weekly appearance on Lunch Money on the Sky Business channel is this week rescheduled for the Tuesday at noon rather than the usual Thursday. On Friday the FNArena Editor will make his regular appearance on Board Room Radio's Friday Afternoon Round Table.

For further global economic release dates and local company events please refer to the FNArena Calendar.

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