Ring-fence, contain, firewall. Three of the words that European authorities are finally understanding (outside of lip service) right now to prevent the debt crisis spreading to Italy and Spain as they prepare to ask private sector bondholders of Greek debt to price their bonds to market. Yes the FT article late yesterday spurred a market rally but as the European head of the IMF said today, “there is no secret at all that European authorities and the EC are all working together on a plan to bring more official capital, more public sector capital, into the banking sector, precisely to restore confidence.” The EFSF as we know since July 21st will be the vehicle to do this, with the ultimate size of its buying power being the only question right now and what risk to the AAA credit ratings of Germany and France it will bring. Moody’s 3 notch downgrade of Italy just puts them in line with S&P who downgraded it a few weeks ago. In a good sign that European officials are finally getting it, the reaction to dealing with Dexia seems to be swift as the WSJ quoted someone familiar with the breakup discussions saying “It will be drastic…Any other solution won’t be accepted by financial markets.” Dexia is a large bank with tentacles in many different parts of the financial system so under the rug sweeping is not acceptable, this fire must be fully extinguished now. I define this by how much bondholders will suffer instead of taxpayer bailout funds. In the US, even with the avg 30 yr mortgage rate for the week falling 6 bps to 4.18%, refi apps fell 5.2% after 3 weeks of gains while purchases fell by .8%. II: Bulls 34.4 v 37.6 Bears 45.2 v 40.9 (bulls lowest since Aug ’10, bears highest since Mar ’09 when it got into the 50’s).
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