Over the past weeks, there have been at least 3 separate reports (FT Deutschland, Frankfurter Allgemeiner, and El Economista, that Spain was seeking an EU/IMF aid package. Spain has denied the reports. Here’s why we suspect the reports are true. In short, both fundamental and speculative evidence is becoming overwhelming that Spain will not last long without aid.The Fundamentals
First, Spain’s economy is arguably in terminal decline without significant aid on a pure fundamental basis.
As well summarized by Micheal Snyder here, via businessinsider.com, there are numerous reasons that Spain can arguably be considered a default waiting to happen unless it receives serious help that will dwarf the latest so called ‘shock and awe’ EU/IMF package of €750 bln that was meant to cover smaller economies like Greece. However, Spain’s economy is about 5x as large, comprising 11.5 % of EU GDP is the 10th largest economy in the world. If a mere Greek default threatened to destabilize European banking, a Spanish default would likely destabilize even Europe’s largest banks
· Over 20% of the workforce is unemployed:
· Deficit equal to 11.4 percent of GDP:
· Total debt equals 270 percent of GDP:
· Rampant credit downgrades:
· Unsold housing inventory levels SIX TIMES WORSE than America:
· Caught between austere misery and a credit downgrade:
· IMF forecasts NO POSITIVE GROWTH until 2011:
The strikes and protests are just getting started:
Even if we somehow ignore these gruesome fundamentals, it’s clear that the recent build in speculative fever alone may push Spain to seek aid regardless of whether it might have otherwise been needed.Speculative Momentum: Spanish Sovereign Debt Yields Are Exploding Higher
Fundamentals aside, in the short term it’s all about expectations, and these are getting just as bad as the fundamentals.
A few weeks ago Spain had a successful €3 bln 10 year bond sale on June 17th ,but at the cost of higher yields that were just below 5%, considered a red- line maximum it can afford for this maturity. It also sold a smaller amount, €479 mln, of 30 year bonds at just below 6%.
S&P announced on Monday that it had raised estimates for loan losses for Spain's banking sector, feeding anxiety levels and ultimately their borrowing costs.
Of more concern, perceived credit risk on Spanish debt is rising at an accelerating rate.
1. Note the 5 year Spanish bond chart, and the rate of increase in 5 year bond yields since April (when the EU sovereign debt concerns became a full blown market crashing crisis)
(via Dave White here )
2. Its recent sale of 3 year bonds was at double the yield for those sold just this past April.
3. For reference, note how the Spread on Spain’s 5 year bonds has changed in the course of the past day. Here’s a chart showing the spread increase and Cumulative Probability of Default (CPD%)for June 22nd:
5 Year Credit Default Spreads as of June 22nd 2010 Table Courtesy of cmavision.com 12jun23
4. Here’s one for today, June 23rd. Note that Spain’s spread has risen another 6.35% and that its CPD% is up from 18.76% to 20.87% - all in just 24 hours. Unusual movements like this are just the kind of thing traders (or their computers) are tuned to spot. Left unchecked, that should build further momentum buying of Spanish sovereign debt default insurance, further raising spreads and yields, and ultimately the borrowing cost of the July bond sale.
5 Year Credit Default Spreads as of June 23rd 2010 Table Courtesy of cmavision.com 14jun23
The reason Spain is of special concern is that it has a large debt redemption in July, about €24 bln, and thus is especially vulnerable to rising rates should it need to sell bonds to raise cash for this redemption. Spain has claimed it has the cash on hand and need not sell any bonds, and is not seeking aid from the EU/IMF. Of course, Greece said the same thing just before the very opposite occurred.
Clearly the debt markets are betting otherwise
In short, the timing of this deterioration couldn’t be worse.
Nor may it be entirely accidental. Months ago Goldman Sachs was advising clients to buy CDS instruments on Spanish and Italian banks. There is serious money betting on trouble.Ramifications and How To Profit
See the above for details
Disclosure: No Positions