Earlier today, Spain's Treasury Minister admitted what has been obvious to everyone for some time now: Spain is effectively shut out of the bond market. This eventuality has been a few months in the making (once the effects of LTRO 2 wore off, the country's borrowing costs began to creep up steadily, as systemic risk reared its ugly head anew) but it became clear that the end was indeed near last Wednesday, when the yield on the Spanish 10-year note rose 21bps (laughably, the yield rose to a devilish 6.66%) after the ECB rejected its plans to recapitalize Bankia with sovereign debt. Shortly thereafter, Spanish CDS rose above 600bps, the spread between Spanish debt and German equivalents widened to record levels, and now, the country has finally admitted it can no longer finance itself, and is seeking help from the EU regarding the recapitalization of its banks. From Reuters...
Spain's high borrowing costs mean it is effectively shut out of the bond market and the European Union should help Madrid recapitalize its debt-laden banks, Treasury minister Cristobal Montoro said on Tuesday..."The risk premium says Spain doesn't have the market door open," Montoro said on Onda Cero radio. "The risk premium says that as a state we have a problem in accessing markets, when we need to refinance our debt," Spanish banks [then], should be recapitalized through "European mechanisms"...
While Spain has enough money to meet its obligations in the near term, it still needs to refinance 82 billion euros, a feat that could prove tricky if conditions do not become more favorable in relatively short order. Additionally, Spain's Treasury has said it 'only' needs around 40 billion euros to recapitalize its banks, although this figure is certainly suspect given that the cost of the Bankia rescue is already expected to be around $25 billion. The market will know shortly just how widespread the damage is, as an independent audit of Spain's banking sector is under way; Wall Street veteran and author Mark Grant believes the results will be quite disconcerting:
Spain says it is a 50 billion Euro problem and the reality is probably more like a 400 billion Euro problem. There is all kinds of cross lending between the banks in Spain and while Spain's largest two banks have tried everything they could to isolate themselves; I predict there will be no escape for anyone. Now that Spain has asked for a bailout of their banks the European auditors will show up and I would bet large money that the values of many loans and the value of Real Estate and the securitizations tied to it will be found to have been vastly overstated.
Perhaps the most peculiar thing about the whole scenario is that after months of denying the need for outside assistance, Spain chose Tuesday to admit it cannot fund itself at current rates. This seems like a particularly ill-timed admission given that an auction of medium- and long-term Spanish debt is coming up on Thursday--if the deck wasn't already stacked against Spain for Thursday's auction, it surely is now.
This could indeed be the proverbial straw that breaks the camel's back for Europe and it could not come at a worse time for Wall Street as markets are still reeling from Friday's dismal NFP report. Expect the market to struggle Thursday as a failed Spanish auction could have a substantial ripple effect. Short or put options on S&P 500 (SPY), long VIX, short or put options on EuroSotxx 50 (FEZ), short euro, long U.S. dollar. This risk-off trade has longer to run.
Disclosure: I have no positions in any stocks mentioned, but may initiate a short position in SPY over the next 72 hours.