What can clearly be observed from the Yield Curve for Treasury Bills (T-Bills) dated 30 days is that the spread between 30 September 2013 (at 0.10%) to the rate at 11 October 2013 (0.26%) has significantly increased and that the Yield Curve has become inverted. Normally the sign of a recession or other financial calamity to come.
Will Thursday 17 October 2013 be D-Day (for Disaster or Domino-day) when the whole lot starts tumbling down again?
When the Euro zone Debt driven financial crises – yes, it has been dragging on for a little while now; lurching from one convulsion to the next tremor – is headline news across most traditional newspapers in Britain, it is worth pausing briefly to consider the overall ‘management efforts’ of the European leadership and senior bureaucratic establishment and the potential outcomes.
The interesting point to observe today is the development of the crises from one of ‘consolidated rhetoric’ to save the Euro zone and Euro project, to a slow and it now seems inevitable conclusion that certain ‘none performing’ members will have to leave the Euro monetary union. This ‘orderly exit’ is now overdue because the political will, fiscal consolidationand Euro zone wide risk sharingnecessary to ensure continued membership, on an equal footing, has been and is being rejected by the electorate as incumbent political leaders and governments stumble and fall as each political reflection point at the ballot box looms.
What is not being openly discussed?
What is currently not part of the popular discourse is the fact that the risk has moved on from a political, credit and market risk to one of a social or socio-economic dimension. Because ‘austerity proper‘ has not yet begun to bite and embed itself firmly in the economies of most European countries, as part of the process of climbing the stairway on the upward leg of addressing the mountain of sovereign debt built up over the last few years, nobody has really, except for Greece (and a blip in August 2011 in Britain), had to deal with large-scale and continued civil unrest. Yet, this is exactly the scenario we need to prepare for as a few conversations we have been having with analysts and pundits has openly started raising this spectre as another risk factor to add to the volatile cocktail we are already expected to swallow.
The next step?
Is a full-scale exit by the weaker Euro zone nation states on the cards and the possibility of a wholesale devaluation of the Euro? Well, that depends on where the financial and fiscal power and discipline lies and we believe that most observers of the European Debt Crisis known the instinctive answer to that question…
A final thought is to start preparing yourself for debates and contingency planning around a disorderly exist by weaker Euro zone members. And have large-scale civil unrest as part of the scenarios you need to consider…
We take a brief look at two interesting Treasury Yield curves today.
The first Yield Curve takes a snapshot view of the yield curves at the end of Q1 2011 and Q1 2012.
What is very noticeable is the fact that the overall yields for the end of Q1 2012 is significantly lower than a year ago. Taking a look at the at the 5 year T-Note yields as an example, the spread between the end of March 2011 (5Yr T-Notes at 2.24% ) and the end of March 2012 (5Yr T-Notes at 1.04%) was 1.20% down. The question is what factors drove down the ‘risk-free’ rate on US Treasuries?
However, turning our attention to the second graph below, indicates a slightly different perspective; and hence the title of this post. Has and is risk returning to the capital and stock markets to levels we previously experienced?
Not quite, is the short answer, because the spread between 31 December 2011 (0.83%) versus the 1.04% rate at the end of March 2012, only indicates an uptick of 21 basis points in the yield rate. The significance is not the percentage spread, but rather the direction of movement and we will continue our analysis at the end of Q2 2012 to establish whether the direction in Q1 2012 will be maintained into Q2 and beyond.
The final question to ponder is this:
Are we finally seeing the corner turned, or are there still significant risks in the global economy and sovereign debt markets to cause a few further after shocks in the months to come?
With apologies to The Smiths; the original version of the song Panic’s lyrics reads something like this:
“Panic on the streets of London / Panic on the streets of Birmingham / I wonder to myself / Could life ever be sane again?”
Or is this the beginning of what we will call ‘Austerity Anarchy’?
As a case study in behavioural economics goes, the last week in March 2012, in the UK must go down as a classic…
What sparked the ‘run on petrol and filling stations’ is not the aim of our analysis, but rather the deeper underlying cultural psychosis affecting Austerity Britain. However, the austerity is not driven by the current revenue expenditure austerity, but rather the culture of Investment Austerity over many decades that has created a supply chain time bomb in the UK.
There is generally a severe lack of investment in any form of storage capacity. Not as a risk management concept, but rather as a pure short sighted cost management issue.
Yes, land capacity is limited on a small (in places patchily overcrowded; especially down in the South East of England) island and the cost of owning a vast storage network must seem prohibitive; yet having so little risk management or rather ‘buffer’ and shock absorption capacity available must be the vast hidden opportunity cost ‘time bomb’ waiting to derail a sustained or sustainable short run upturn in the economy?
Hidden or in the economists parlance ‘Opportunity Cost’ is generally not an item on any policy maker’s agenda, yet in it lies the ‘unintended consequences’ element that so seldom gets factored into the equation. Yet opportunity cost highlights the risk element we have to factor in. And in this sense we use the word RISK in its proper intended format, namely a quantifiable probabilistic evaluation of the downside of a transaction. Yes, threats are more closely aligned to ‘unintended consequences’ and are the issues we can only subjectively be aware of, but cannot quantify with any degree of accuracy.
In yesterday’s article, “Where will all the new money come from?” we concluded the brief analysis with the Sovereign Debt Maturity profiles (otherwise known as the Debt Structure) of both the USA and Italy, noting how similar the two profiles looked at first glance.
Digging a bit deeper today, we would like to compare those charts to cliff edges. We trust that the sentiment of the article is that we perceive Central Banks across the globe fretting about the ‘New Money’ we were referring to. With general economic confidence waning and the outlook for a sustainable long-term solution to sovereign over (indulgence) spending fading, the landscape is looking very bleak at moment.
New money will have to be printed (Quantitative Easing or QE) if investors in the capital markets cannot be found to bear the burden of purchasing new Bond and Treasury issues.
Some headlines over the few weeks alluded to Bond auctions in Portugal, Italy and Spain being well supported (see related article at the bottom of this post), but these were not major refunding and roll-over exercises. Greece is continuing to be a welcome distraction for politicians and Central Bankers in both taking investor’s eye off the bigger problems coming along the line in Q2 2012 and in winning time to hopefully come up with a credible longer-term plan to reduce debt levels and then return to growth.
Let’s take a look at some of the crucial Sovereign Debt auctions coming up in the next few months:
The link below provides a time table schedule issued by the US Treasury for T-Bills, T-Notes, T-Bonds and TIPS, for at least the next six months.
To get the equivalent Eurozone calendar is not so easy. (Partly because each individual country issues Bonds, as there is no Central Eurozone issuer of Bonds, but at least a central purchaser, namely the ECB – European Central Bank)
We are currently investigating sources of information for Eurozone Sovereign Debt Bond auctions and will return to this theme in very near future.
Today’s brief analysis of US Treasury Yield curves and the Debt profiles of both the USA and Italy highlights the enduring question in the title of this post.
The first graphic highlights one important issue. We chose 2 August 2011 versus 17 February 2012 as key dates to compare the US Treasury Yield curve. If we cast our minds back to 2 August 2012 two key facts emerge:
This was the D-Day of the US Debt Ceiling vote
The US still had a Triple A credit rating
The key take-away from the Yield Curve comparison is that even with a ratings downgrade, the US is actually able to borrow new capital at a lower rate of interest 6 months on.
However, to pour a bit of realism into the analysis, we highlight two interesting Debt profile graphics below.
The first one is the USA Treasury Maturity curve (admittedly 6 months out of date), highlighting when the current debt will need to be redeemed or rolled over. The second is the Italian Bond Maturity curve. You will notice just how similar the USA and Italy Debt Maturity profiles are.
From this comparison, the critical question currently for us is:
Where will all the new money come from to roll over the debt maturing during the next 3 – 12 months? QE is one option, but investors still need to be convinced that their capital is safe and relatively risk-free. It is the Risk-free equation (or investor risk appetites) that needs to be explored in more detail.
Are the European and more specifically the Euro-zone problems purely a matter of cultural differences, engrained in generations of ‘Nation Staters’ or something deeper in each nation-people’s psychology?
It cannot purely be a difference of political ideology between the leaders and individual nations of Europe that has lead us to the brink of the Euro abyss. But, yet maybe the way the debate and challenges facing Europe are being framed, has a great part to play in it.
Europe always seemed to be a halfway house between cultures, trade, ideologies, beliefs and norms. And the fact that the Euro single currency zone was stitched together based on these ‘halfway house’ ideas should therefore not have been a surprise.
How long does it take to build a vision? Or rather, why did Europe take so long to get to the chasm, build a rickety Monetary Union bridge, without firming up the foundations that holds together the infrastructure once the traffic crossing that bridge started increasing in volume?
If there is something Trade theory should have taught us, it must be that once opportunity (to trade and create wealth) is established, the trickle would eventually turn to a steady stream and the steady stream to an eventual throng. Yet not one European leader or institution foresaw this? Takes us full circle to the original question, namely: “How long does it take to build a VISION?”
The truth might lie somewhere in the nature, establishment and deep rooted psyches of the Europeans themselves. Europe might be the collective noun; yet staunch nation state individualism (the communities we all hunker after) is the actual bedrock and foundation of the people who live in Europe. Unlike the USA, with a common language, full monetary and federal fiscal union, Europe is and will always remain a loosely led together community (but not a collective) of nation states and peoples.
Fairness, freedom, equality and openness, some of the most fundamental tenets of a market and community to function properly, are not necessarily on the agendas when ideological political, rather than economic (for the greater good), issues are considered by both politicians, technocrats and bureaucrats in the institutions and fabric at the heart of a (dis)United Europe.
Therefore, until and unless we can prize Europeans from there deeply held ‘national interest’ debates and frames of reference, in terms of establishing a common and united front; we feel that there is no hope of sustainably solving the Euro-zone sovereign debt and monetary union problems.
A possible mechanism might have to be the establishment of a ‘fourth branch’ of governance, outside the Executive, Legislature and Judiciary, being an outside force or rather an Adjudicator comprised of non dominant European member countries and quite possibly with an Advisory Board consisting of non Europeans themselves, to allow for the establishment of a fair, free and an open implementation of the Legislature’s policy decisions, hence and overseer of the Executive, but an equal to the Judiciary, with a final veto by the citizenry of Europe themselves, as a balancing mechanism, should a stalemate ever arise.
The enabling driver of such an European Adjudicator must surely be the Digital Economy with its various platforms and reach extending now and in the future across the ‘Net’ that is European integration.