More Parallel Universes: Spain’s Bond Markets and EU Macro

Europe has been a showcase for the falsification of what seems as conventional relationships between financial markets and fundamentals or what I call as "parallel universes".

For instance, in Spain instead of the bond markets reflecting on credit quality, where soaring non-performing ‘bad’ loans should have prompted a bond selloff (higher yields), we get to see the opposite, rallying bonds (falling 10 year yields)…

From the Zero Hedge… (bold-italics original)

Despite the onslaught of confidence-inspiring flim-flam from leadership in Europe and a Spanish Prime Minister (and finance minister) desperate to distract with "soft" survey based data, the hard numbers keep coming in and keep getting worse and worse. The latest, seemingly confirming the IMF's fearsome forecast that European banks face massive loan losses in the coming years, is Spain's loan delinquency rate. Bad loans across Spanish banks amounted to $247 billion in August - a new record-breaking 12.12% of all loans outstanding (now 30% higher than any previous crisis in the history of Spain). Credit creation continues to implode with a 12.3% plunge in total loans outstanding but of course, none of that matters (for now), as Spanish bond spreads (and yields) press back towards pre-crisis lows...

This has been a product of entwined manifold political factors.

One, ECB’s Mario Draghi’s “do whatever it takes to save the euro” via a bond buying guarantee program [the unused Outright Monetary Transactions (OMT)] as well as the previous or OMT’s predecessor Long Term Refinancing Operations (LTRO). The LTRO has also functioned as credit subsidies to the banking system. The LTRO, the ECB learned lately, has entrenched the dependence of the banking industry, where the latter can hardly wean away from the LTRO without disorderly adjustments.

Also the Spanish government via Social Security Funds and other public pensions, as well as, the banking (€225bn in March) and financial sectors have been made to support sovereign bond prices. The banks likewise use these bonds as collateral to draw loans on the ECB. By keeping rates low, banks and the Spanish government benefits from these political subsidies financed by the economy.

International politics have also been a factor. For instance, Abenomics has spurred Japanese buyers to buy international bonds, including Europe, where Spain's bonds could have been a part of. 

Zero bound rates has also spurred a yield chasing dynamic for private sector funds.

As one will note politicization of markets results to a vast distortion of relationships between market prices and the orthodox view of fundamentals. 

Yet the mainstream who largely frames the above as 'recovery' either has blinded by such developments or deliberately twist or spin them to justify their actions

Such parallel universe applies to Europe's stock markets relative to ‘fundamentals’, which I have repeatedly been pointing out such as here and here

Again from another Zero Hedge article: (bold and italics original)

Goldman has, in the past, indicated how little forecasting power the soft survey data has in Europe and yet still, day after day we are treated to the herd of mainstream media types proclaiming that Europe is recovering and that their fundamentals have turned a corner. The problem with that "story" is that is that is a lie. In fact, European macro data has been sliding since the start of September and has plunged recently to 3 month lows. Of course, the reality is that a record high for European stocks is all that matters to the fast-money charging momo players and betting against divergences from fundamentals is for dummies...

Are these divergences 'This time is different'?

A Buffet Of Negative News Haunts Major Financial Markets

Major financial markets seem to be either in a state of confusion (looking for anything to justify current actions) or are have been seeing widening of cracks that may turn into a collapse.

While yesterday's news where the sharp decline in Wall Street was linked to anaemic job data, in Europe, market anxiety has been allegedly from Hungary's politics.

This from Bloomberg,

``Credit-default swaps on sovereign bonds surged to a record on speculation Europe’s debt crisis is worsening after Hungary said it’s in a “very grave situation” because a previous government lied about the economy...

``Hungary’s bonds fell after a spokesman for Prime Minister Viktor Orban said talk of a default is “not an exaggeration” because a previous administration “manipulated” figures. The country was bailed out with a 20 billion-euro ($24 billion) aid package from the European Union and International Monetary Fund in 2008."

Bespoke Invest rightly points out that it isn't Hungary, but Spain which appears to be feeling the heat, as shown by the activities in the sovereign Credit Default Swaps markets.

Bespoke Invest writes,

``Sovereign debt worries in Europe have been elevated for a couple of months now, and today Hungary moved into the crosshairs. Sovereign debt default risk as measured by 5-year CDS prices has spiked for Hungary and the countries surrounding it today, but default risk for this region still remains well below levels seen in late 2008 and early 2009. The first two charts below of 5-year CDS for Austria and Hungary since 2008 highlights this. Greece and Portugal default risk remains elevated as well, but at the moment it is still down from its recent peaks. France also remains elevated, but it is still below highs seen in early 2009. The same can't be said for Spain, however. Spain default risk reached a new crisis high today, taking out levels seen prior to the trillion Euro bailout. And Spain matters much more than Hungary."

So like in a buffet, the link between bad news and falling markets seems a matter of choice. Take your pick: US Jobs data, Hungary or Spain? Or perhaps, the latest fashion of lengthy hemlines hold the key?

In Spain, Pop Goes The Magic 'Green' Bubble

ONE of the likely casualty from the Greece led PIIGS debt crisis seems to be "Green" energy.

From Businessweek,

``Spain is lancing an 18 billion-euro ($24 billion) investment bubble in solar energy that has boosted public liabilities, choking off new projects as it works to cut power prices and insulate itself from Greece’s debt crisis...

"Spain is battling on several fronts to revive its economy and convince government bondholders it can avoid getting dragged into a Greek-style debt spiral after Standard & Poor’s cut its credit rating April 28. Solar-plant owners including General Electric Co. earn about 12 times what’s paid for power from fossil fuels. Most of that is a subsidy charged to customers

``Prime Minister Jose Luis Rodriguez Zapatero’s government last cut solar rates in 2008, hitting plants not built at the time. Now it’s weighing reductions for the thousands of installations already making power from the sun, wind and biomass.

‘Excessive Subsidy’

“This is necessary,” said Leon Benelbas, chairman of Atlas Capital Close Brothers investment bank in Madrid. “It’s an excessive subsidy at a time Spain has to gain competitiveness, and the cost of energy is a determining factor.”

``Spain’s fixed-price system for renewable power, which attracted more investment in solar panels in 2008 than the rest of the world put together, boosts the state’s liabilities even though they don’t show up on its balance sheet.

``That’s because the Spanish system delays payments by consumers for part of their electric bills for years. The government guarantees repayment to power suppliers such as Endesa SA and Gas Natural SDG SA. The cost of those unpaid bills rose last year by about 4 billion euros to 16 billion euros.

``Spain intends to revise the clean-energy rates down “to avoid damaging the competitiveness of industry,” Sebastian told the Spanish parliament yesterday."

This only shows that industries that cannot stand on its two feet, that can't compete, but survives mainly on government mandates and subsidies (or crutches), will be subjected to politics and this includes suffering from cuts in spending or support when austerity is required, especially in response to a crisis.

And the impracticality or non-feasibility would be eventually revealed from such retrenchment. In short, "the emperor has no clothes!"

Yet, "green energy" hasn't been proven to be a net positive contributor to the economy.

George Will comments on a study by Professor Calzada on Spain's alternative energy programs,

``Calzada says Spain's torrential spending -- no other nation has so aggressively supported production of electricity from renewable sources -- on wind farms and other forms of alternative energy has indeed created jobs. But Calzada's report concludes that they often are temporary and have received $752,000 to $800,000 each in subsidies -- wind industry jobs cost even more, $1.4 million each. And each new job entails the loss of 2.2 other jobs that are either lost or not created in other industries because of the political allocation -- sub-optimum in terms of economic efficiency -- of capital. (European media regularly report "eco-corruption" leaving a "footprint of sleaze" -- gaming the subsidy systems, profiteering from land sales for wind farms, etc.) Calzada says the creation of jobs in alternative energy has subtracted about 110,000 jobs elsewhere in Spain's economy."

Overall, like typical bubbles, resources spent on these government pet projects only means waste.