Fatal Hubris
Research for Online Investors

6/5/12

G7 representatives participated in a conference call this morning to discuss fiscal integration and Spain.  Before the call Spain’s Treasury Minister Cristobal Montoro gave an interview on a local radio station.  He said “The risk premium says Spain doesn’t have the market door open.  The risk premium says that as a state we have a problem in accessing markets, when we need to refinance our debt.”

Spanish ten-year bonds yield 5.48% MORE than German bunds.  Spain has been pushing other countries to rescue Spanish banks, but the European Commission is standing pat that bailouts can only be offered to countries not directly to banks.

Germany has been pushing Spain to request a bailout, while Spain keeps raising the need for the eurozone to recapitalize Spanish banks.  Why the stalemate?  Because Spain’s politicians don’t want to lose their power and enact austerity measures.

A German government source told Reuters about Spain “They don’t want to.  They are too proud.  It’s fatal hubris.”  The Spanish government also hopes to pressure the European Central Bank to enter the bond markets and tamp down their sovereign debt interest rates by buying Spanish bonds.

Spain is scheduled to auction $1.25 to $2.5 billion dollars in medium and long-term bonds on Thursday.  Towing the government’s line, the Chairman of Banco Santander told Reuters “there’s no financial crisis in Spain.”  This was after he said Spanish banks needed about $50 billion dollars in capital to shore up their balance sheets.

Let’s see, Spain’s banks need $50 billion dollars that have to come from the government.  The government is concerned about selling a couple of billion dollars in medium term bonds.  Hum, Madrid we have a problem!

Many eurozone countries are taking Spain’s side and trying to pressure Germany to agree to back off their austerity demands and assist countries (and banks) while allowing continued spending to encourage “growth.”  Kind of like shovel ready projects!

German political party leaders are united in their view that rules of bailouts must be followed.  Volker Kauder, CDU parliamentary leader said “Discussions over a new type of aid don’t seem very productive in the current situation.  The help must be requested by the state concerned; as the rules prescribe…the government in Madrid should promptly decide whether it wants access to the EFSF.” The CDU (Christian Democrats Union) is Angela Merkel’s party.

Former German foreign minister, Frank-Walter Steinmeier said “I see a risk that Spain will be too late in deciding to seek protection from the euro rescue umbrella.”  Steinmeier is the parliamentary leader of the SPD party.

When the conference call ended, the U.S. Treasury issued an official statement.  It said “They agreed to monitor developments closely.”  The G-20 meets in two weeks in Mexico.

Investors and traders should be wary of Thursday.  Spain may have a ‘failed’ bond auction, interest rates will most certainly be higher, or the European Central Bank may orchestrate a bond buying program.  Results of the bond auction will be known before U.S. markets open.

The Guardian points out a bit of irony, today is the 129th anniversary of John Maynard Keynes birth and 79th anniversary of the United States going off the fixed gold standard.

The mailbag:
What is your forecast for what is going on?  I know you always have a very grounded, somewhat contrarian perspective.---subscriber T.A.

John’s reply:
The eurozone and China scare me.  I think investors and traders are looking for a "silver bullet" to fix the eurozone.  I think it will still be affecting our market next year and the year after.  Watching China and understanding it is like looking in a shadowy room at a dark object.  I got out of Chinese stocks two years ago because I didn't trust the economic reports or accounting.  Last year we learned the accounting was spotty and I think most people understand the economic reports are cooked by the government.

I don't know if they will have a hard or soft landing, but consider the risk significant as Europe is their number one customer.  Please remember the biggest risk to our market is here in the U.S.  Our government is bankrupting the country.  The dollar is going to be challenged as the world's reserve currency.  I think our standards of living will be adjusted downward in the future, either taxes or deflation with a possible default on debt by Uncle Sam.  Sounds discouraging doesn't it?

Win or lose in the market, I would rather be liquid in good dividend payers and precious metals than in cash.

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