Uncertain Market Faces Uncertain Future For Spanish Bank Bailout

Includes: EWP, QQQ, SPY
by: Colin Lokey

Upon the conclusion of the EU Summit, several foolishly hopeful observers (myself among them) concluded that European policymakers' decision to allow the European Stability Mechanism (ESM) to directly recapitalize struggling eurozone financial institutions represented a potentially game-changing realization on the part of Europe's leaders. That realization: the best way to combat the debt crisis is to break the link between sovereigns and their banks.

While the decision may indeed represent collective cognizance, the events that have unfolded since the Summit quite clearly betray a lack of collective will to remedy the problem. As I noted previously, two of the eurozone's remaining AAA-rated countries--Finland and the Netherlands--have already made it clear that they will not support the Summit's other major breakthroughs: the renouncing of seniority vis a vis the Spanish bank bailout and the rescue vehicle-backed purchase of distressed sovereign debt.

As to the ESM-funded direct recapitalization of the region's banking sector, Finland has said it is unsure whether a treaty change will be necessary to implement the plan. While this sounds like a positive development on the surface--many analysts assumed that a treaty change would unquestionably be required as direct recapitalizations seem to be forbidden under article 15--it is actually quite negative considering it is a response to the contention that the treaty could be amended by the council of governors and would not require a nation-by-nation ratification.

Now it appears that (predictably) the new plans will face German opposition as well. In an interview Wednesday, Carsten Schneider, parliamentary budget speaker for Germany's largest opposition party (the SPD or, social democrats) made it clear that his party would oppose the direct recapitalization of eurozone banks via the ESM. Mr. Schneider could not have been more specific:

We strictly oppose enabling credit institutions to be financed directly from the rescue funds...if the planned aid for the Spanish financial sector were to flow directly from the bailout fund to the banks, then it's hard for me to imagine that the SPD could approve this.

If the combination of SPD and Finnish opposition wasn't enough to demonstrate how difficult a road lies ahead for the Spanish bank bailout (and, by extension, any future bailouts of Europe's financial institutions), news also broke Wednesday that the German Finance Ministry is unsure whether Spain's request for a bank bailout will be under discussion at its July 9 meeting:

Finance Ministry spokesman Martin Kotthaus said at a regular government press conference...that a decision could only come once the report on Spain by the troika...had been finalized..."Up to now I've had no indication whether we will be able to decide already on July 9," Kotthaus said.

The message here is now abundantly clear: there is no time table for providing the proposed aid to Spain and even if there were, there is no agreement on the bailout's implementation mechanism. This translates to more of the very thing the market hates the most: uncertainty. Short S&P 500 (NYSEARCA:SPY), short Nasdaq (NASDAQ:QQQ), long volatility.

Disclosure: I have no positions in any stocks mentioned, but may initiate a short position in SPY, QQQ over the next 72 hours.

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