Eurozone Bank risk in Eastern Europe, much more to come on this story
18/02/09 19:39
Ref: UBS
Investors gave a lukewarm reception to the government's new plan to stem housing foreclosures even though the plan was more ambitious than originally anticipated. President Obama outlined a program that will include $75bn to assist struggling homeowners who are at risk of foreclosure and those who have difficulty refinancing mortgages because of a drop in the home value. The program will encourage loan modifications through lower interest rates and incentive payments and relax lending standards by the GSEs for mortgage refinancings. We're not sure how this will play out in the end and I doubt we will see a material impact, overall. He also said the government would extend an additional $200bn of backing to the GSEs in order to ensure credit availability. Economists believe that while this plan is not likely to lead to immediate success and will not prevent all foreclosures, it will likely be more successful than previous efforts to date, as it includes incentives for both borrowers and lenders. The plan is expected to take effect on March 4 and additional details on the guidelines will be published then. The plan comes on the back of more weak housing data, as housing starts missed expectations (466k vs. consensus 529k, prior 550k) and building permits were also down (521k vs. consensus 525k, prior 549k). In other news, the Fed took the new step of announcing longer-term economic projections, including a long-term inflation goal of 1.7-2.0%, with the latest FOMC minutes. The inflation goal is a step towards inflation targeting, though it represents more of an informal target. In separate comments, Fed Chairman Bernanke said he still expects "extraordinarily challenging times" for the economy and the Fed, which is consistent with ongoing credit easing and no change in the funds rate for some time.
Investors gave a lukewarm reception to the government's new plan to stem housing foreclosures even though the plan was more ambitious than originally anticipated. President Obama outlined a program that will include $75bn to assist struggling homeowners who are at risk of foreclosure and those who have difficulty refinancing mortgages because of a drop in the home value. The program will encourage loan modifications through lower interest rates and incentive payments and relax lending standards by the GSEs for mortgage refinancings. We're not sure how this will play out in the end and I doubt we will see a material impact, overall. He also said the government would extend an additional $200bn of backing to the GSEs in order to ensure credit availability. Economists believe that while this plan is not likely to lead to immediate success and will not prevent all foreclosures, it will likely be more successful than previous efforts to date, as it includes incentives for both borrowers and lenders. The plan is expected to take effect on March 4 and additional details on the guidelines will be published then. The plan comes on the back of more weak housing data, as housing starts missed expectations (466k vs. consensus 529k, prior 550k) and building permits were also down (521k vs. consensus 525k, prior 549k). In other news, the Fed took the new step of announcing longer-term economic projections, including a long-term inflation goal of 1.7-2.0%, with the latest FOMC minutes. The inflation goal is a step towards inflation targeting, though it represents more of an informal target. In separate comments, Fed Chairman Bernanke said he still expects "extraordinarily challenging times" for the economy and the Fed, which is consistent with ongoing credit easing and no change in the funds rate for some time.
The housing plan is a welcome development but since it will likely take time to make an impact, similar to the stimulus plan and the revised bank bailout plan, we expect risk aversion will remain and keep the dollar supported. Gold prices also indicate ongoing risk aversion as prices continue to push higher. However, we recognize that certain factors are pointing to a potential risk bounce later in the year, which could weigh on the dollar. Data releases include PPI, initial jobless claims, leading indicators and the Philadelphia Fed business outlook survey.
Recent reports have renewed concerns of Eurozone Banks' exposure to Eastern Europe, which has once again raised the issue that bigger European nations will need to step in as a part of an intra-Eurozone rescue plan for endangered financial sectors. Germany in the past has been a strong opponent of such measures, but as their finance minister Steinbrueck has already indicated the integrity of the Eurozone is probably more important at this crucial juncture. We believe the EUR will remain under pressure due to a combination of weak data and systemic banking risks, and as such target further downside in EURUSD. Eurozone Banks put significant investment into Eastern European growth prospects, particularly in the area of real estate, which has seen a material decline. Emerging market growth during global growth periods has always been a risk event, in my view. Significant losses resulted from the Mexico EM growth bubble in the early 90's as advisors and fund managers north of the border sold its junk. Look for EUR to fall further, as been our view for some months when EUR rate declines have lagged other regions, but are now contracting in relation to the majors.
BoE minutes reveal that the MPC's decision to cut rates by 50bp at its February meeting was approved by 8 votes to 1. Again the lone dissenter, Blanchflower, who is due to retire on May 31st, voted in favour of a 100bp cut. Of greater significance was the discussion of how alternative policy instruments could be used to provide further stimulus to the economy as the Bank Rate approaches the zero-bound. It was agreed that the Governor should seek authority from the Treasury to begin the process of buying commercial paper and corporate bonds using money 'financed by the creation of central bank money'. This represents a dramatic departure from the existing arrangements under the Asset Purchase Facility where purchases are financed by Treasury bill issuance. Meanwhile, it was reported on the wires that the BoE's Governor King has now met the Chancellor to seek such approval for quantitative easing. If given, this would clear the way for the BoE to increase money supply-a direct intention of Governor King as signalled in last week's inflation report update-and the MPC believes these efforts would 'encourage the flow of credit to companies'. However, the MPC acknowledged that the impact of such a measure would be 'both uncertain and subject to time lags'. The minutes also noted that UK exporters seem to be using sterling's decline to increase profit margins rather than to cut prices abroad, a sign perhaps that short-term cashflow concerns are a higher priority than building market share in foreign markets. Public finances and M4 money supply data will be released.
The JPY continues to struggle against the dollar as political instability threatens to inflict further damage on the economy. Ex-Finance Minister Nakagawa's resignation following the events at the G7 is a blow to Prime Minister Aso, who already faces challenges in pushing through the annual budget in the coming weeks. Given the opposition DPJ have a blocking majority in the upper house, the budget process threatens to be arduous and Aso's short-term future is already in doubt, as the government's approval ratings now lie in the single digits according to various sources. Increased political uncertainty in the event that the DPJ wins the upcoming election could cause the yen to underperform. Former economics minister Yosano has been appointed as Nakagawa's successor and we do not expect any significant departures from the previous agenda. Meanwhile, the BoJ is expected to keep the target rate unchanged at 0.10% and reports suggest the BoJ will announce new plans aimed at easing credit conditions. The BoJ has begun to purchase commercial paper and already announced intentions to buy corporate bonds and stocks owned by banks. New potential plans include a collateral-backed lending facility. The political factor is yet another item that could force JPY lower, but we are cautious in chasing excess JPY weakness due to the currency's historical performance as a strong safe haven.