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-Rizzo,Farrugia&Co.(Stockbrokers)Ltd.–Malta-http://rizzofarrugia.com- IstheEuropeanbankingcrisisreturning? LastThursday,fearsoverthehealthofoneofPortugal’slargestbankstriggeredasharp declineacrossinternationalequitymarketsespeciallyinthebankingsector.Meanwhile, yieldsonPortuguesegovernmentbondsrosereflectingdecliningprices. ThedevelopmentsinPortugalalsotriggeredadeclineinGovernmentbondpricesofthe otherperipheralEurozonenationssuchasItaly,Spain,GreeceandCyprus.Ontheother hand,amidarenewedflighttoquality,Germanbondpricesincreasedwithyieldsdroppingto theirlowestlevelin14months.Manyinternationalcommentatorsarguedthatthisreaction verymuchresembledthecontagionwitnessedafewyearsagoattheheightoftheEurozone sovereigncrisis. Sowhatsparkedtheequitymarketsell-offandcontagioninthebondmarketsofperiphery countries? Untilrecently,BancoEspiritoSanto(BES),whichwassetup94yearsago,wasPortugal’s largestprivatesectorbank.Remarkably,BESwastheonlyoneofthetopbanksinPortugal thatdidnotrequireagovernmentinjectionduringthecountry’ssovereigndebtcrisis.The majorityshareholderwastheEspiritoSantofamilyviatwocompanies,aholdingcompany EspiritoSantoInternational(ESI)andEspiritoSantoFinancialGroup(ESFG),abankingand insurancecompanybasedinLuxembourg.ESIowns25%ofBESandESFGholdsastakeof another26%.ESIalsohasamajorityshareholdinginamajorfundmanagerinPortugal. Earlylastweek,ESFGannouncedthatESIwasexperiencing‘materialdifficulties’afterit failedtopaytheinterestonsomeofitsshort-termdebtinstruments.Theproblemshad startedsurfacinglastMaywhentheBankofPortugalorderedanauditofBES,ESIandESFG followingconcernsthatESIwasstruggling.Theauditorsdiscoveredaccountingirregularities atESIandBESadmittedthatESIwasinseriousfinancialdifficulties. FollowingthenewsofESI’sdifficultiesinpayingtheinterestonitsdebt,thespeculationon thepossibleexposureofBESandESFGtoESIledtoasuspensionoftheequitiesofboth companiesontheLisbonstockexchangelastweek.However,sHhortlybeforethe suspensionlastThursday,thesharepriceofBEShadalreadylost19%atthestartofthe day.Meanwhile,theinternationalratingagencyMoody’simmediatelydowngradedthe bank’screditratingbythreenotchestoCaa2–aratingrepresentingadefaultsituation. Inabidtoquellmarketspeculationaboutits€1.15billionexposuretotheothercompanies oftheEspiritoSantofamily,BESissuedapressreleaselateThursdayeveningexplaining thatithad€2.1billioninexcesscapitalbeyondtheminimumregulatoryrequirements.The pressreleasealsonotedthat“thepotentiallossesresultingfromtheexposuretothe EspiritoSantoGroupdonotcompromisethebankscompliancewiththeregulatorycapital requirements”. DespitetheassurancesfromBESaswellasthoseofthegovernmentandtheBankof PortugalthatBESisring-fencedfromtheproblemsoftheEspiritoSantoGroupandthatits solvencyisnotatrisk,investorsfearedthatthefullextentofBES’sexposuretotheEspirito SantoGroupmaynothaveyetbeenfullydisclosed.Somecommentatorsestimatedthat theexposurescouldleaveBESwithacapitalshortfallofupto€3billion.Portugal’sprime ministeralsoconfirmedthatPortuguesetaxpayerswouldnotbecalledintobailoutfailing banks,makingitcleartherewouldbenostatesupportforBES. Portugal’sbankingproblemshadanimmediatenegativeeffectonthePortuguese government’sborrowingcostsandthiscouldcomplicatethecountry’sabilitytorecoverfrom theirsovereigndebtcrisis.Infact,10-yearyields,whichhaddroppedtoalmost3%inrecent weeksfromover13%inFebruary2012,jumpedto4%lastweekonthenewssurrounding BES.Likewise,governmentbondyieldsoftheotherEurozoneperipherynationshadalso declinedsteadilyfromtheirveryhighlevelsatthepeakofthecrisis(aclearsignalthatthe marketbecamemorecomfortablewiththecreditworthinessofsuchcountries).However, lastweek’sdevelopmentsinPortugalconfirmedtheweakhealthofsomeofthebanksinthe peripherycountriesandthedifficultieswhendealingwithstrugglingfinancialinstitutions–a clearsignalthatthedebtcrisisisnotyetover. AfurtherriseinyieldsonPortuguesegovernmentbondsmaycompromisethecountry’s effortstotapthebondmarketsregularlyinthecomingyearstofundaseriesofbond redemptions.Thishasalreadyledsomeinternationalcommentatorstospeculatethat eventuallyPortugalwillneedtorestructureitsdebttobeabletocomeoutofitsdebtspiral. Thegovernment’sfinancesarestretchedasdebtlevelsjumpedfrom94%to129%ofGDP overthepastthreeyearspartlyduetothesevereausteritymeasuresundertakenaspartof theEUandIMFrescuepackage.Adebtrestructuringprogrammewillinevitablyimplylosses forholdersofPortuguesegovernmentbonds. “ThemostrecentdevelopmentsinPortugaland theweakereconomicdataelsewherecouldlead totheEuropeanCentralBankadopting quantitativeeasing(QE),i.e.moneyprintingin asimilarwaytowhathappenedinboththeUS andtheUK.” ApartfromthedevelopmentsinPortugal,therenewedanxietyacrossfinancialmarketswas alsocausedbythepublicationofsomeweakdatafromthetwolargestEurozoneeconomies andabankruninBulgaria.RecentstatisticsindicatethattheGermaneconomicrecovery appearstobeslowingwhileFrancecouldslipbackintorecession.Meanwhile,lastmonth therewasabankrunattheBulgarianfourth-largestbank,CorporateCommercialBank (Corpbank),aftermediareportsindicatedthatitstopshareholderwasinvolvedinsome suspiciousbusinessdeals.Thebankrun,whichdrainedCorpbank’sdepositsbymorethan 20%inafewdays,spreadquicklytoanotherbankandthegovernmentintervenedwitha protectivecreditlineofUSD2.3billion.Afteranumberofinitiativesfailedtokeepthebankin operation,earlierthisweekitwasannouncedthatCorpbankwillceasetooperate–another starkreminderoftheproblemsthatstillexistinsomepartsofthebankingsector. ThemostrecentdevelopmentsinPortugalandtheweakereconomicdataelsewherecould leadtotheEuropeanCentralBankadoptingquantitativeeasing(QE),i.e.moneyprintingina similarwaytowhathappenedinboththeUSandtheUK.SuchadecisionbytheECBwould befurtherproofoftheeconomicproblemsstillevidentinEurope.QEiscertainlymore difficultinamonetaryunionwithfragmentedfinancialmarketsthanintheUSortheUK, wherethecentralbanksusedQEpartlytohelpthehousingmarketandthecorporate sector.WhilesomeeconomistsarguethatwithoutQE,theeurozoneeconomywillmost probablygetstuckinalongperiodoflowgrowthandultra-lowinflation,othersbelievethat QEmayhavenegativeconsequencesonfinancialstabilityduetoassetbubblesthatthis maycreate.Infact,theQEbytheFederalReserveandtheBankofEnglandledto increasinglybuoyantequityandbondmarketsacrosstheglobeasthesetwomajorcentral banksinjectedthefinancialsystemwithhugelevelsofliquidity. Theeventsofrecentweeksandtheimpactonbothequityandbondmarketsagain highlightstheimportanceforinvestorstokeeptheelementofriskinperspectiveandnotto followthe‘herdinstinct’.Equityandbondmarketsareboundtobecomeincreasinglyvolatile followingtheirstrongrallyoverrecentyears.Investorsshouldthereforecontinuetoseek professionaladviceperiodicallytoensurethattheirinvestmentportfoliosareconstantly positionedtoreflecttheirriskappetiteandfinancialobjectives. ArticleprintedfromRizzo,Farrugia&Co.(Stockbrokers)Ltd.–Malta: http://rizzofarrugia.com URLtoarticle:http://rizzofarrugia.com/financial-articles/weekly/is-the-europeanbanking-crisis-returning/ Copyright©2017Rizzo,Farrugia&Co.(Stockbrokers)Ltd.-Malta.Allrightsreserved.
