Sarkozy: French Rating Downgrade “Difficulty, not Insurmountable”

Following a drop of factory output by -5.1% in October YoY, as compared with a forecast decline of just -0.7%, the Indian Rupee is tumbling – its down over 15% against the US$ YTD. The SENSEX is down approx 23% YTD, making it one of the worst performers of the Bric countries, though China is down roughly around the same percentage;

Well, you heard it first from Sarkozy – basically he is trying to defuse the impact of the impending French ratings downgrade, likely imminently. Remember that S&P suggested a possible 2 notch downgrade for France. A downgrade is considered a near terminal event for Sarkozy’s Presidential reelection hopes. The current favourite to replace Sarkozy is Francois Hollande, leader of the French Socialist Party, who may add a further complication to the recent Euro Zone “fiscal  compact”.

Other euro Zone countries will be downgraded, including Germany, if S&P carries out their threat Fitch joined S&P and Moody’s in threatening a downgrade for a number of Euro Zone countries, warning of a “significant economic downturn” in the region;

It looks as if Commerzbank needs a 2nd state bail out since 2008, according to German political sources, though Government officials have denied the story – the EBA suggests that Commerzbank will need E5bn. The EBA has ordered European banks to raise E115bn by June next year which, whilst not enough, will still prove to be a struggle. European banks continue to reduce leverage – current estimates suggest that the need to reduce their balance sheets by at least E2tr;

Moody’s have downgraded 8 Spanish banks, citing the weakening economy and the bad debts remaining with Spanish banks. MS suggest that, on a mark to market basis, loan losses (particularly property loans) will require an additional E100bn+ of capital for Spanish banks, as opposed to the EBA’s requirement of E26bn. The new Spanish PM proposes a bad bank solution – well great, but where’s the money coming from;

Given that Euro Zone banks hold between 20% – 30% of their assets in Government bonds, compared with 7% – 8% for US/UK banks (source MS), I cant see European banks buying further Euro Zone bonds – bad news given the significant Euro Zone Sovereign financing requirements, particularly in the 1st/2nd Q 2012.

With almost certain credit downgrades, the future for the EFSF/ESM looks bleak – bad news for bank recaps from that source, though the recent move by the ECB to offer 3 year loans in unlimited amounts will help roll over the maturing debt of EU banks;

With so many Euro Zone countries likely to lose their AAA rating, AA may well be the future AAA equivalent – the market will have discounted much of the likely downgrades though;

The Head of the Bundesbank, Mr Weidmann, has repeated his opposition to ECB purchases of peripheral Euro Zone bonds. He remarked that it was Euro Zone county’s responsibility to resolve the crisis, rather than the ECB. However, the incoming French representative hinted very strongly indeed (at the EU Parliament) that he will be in favour of monetary easing, including more aggressive bond buying. The German’s will be outvoted.
The ECB bought just E600mn of peripheral bonds last week, well below
market estimates. Traders report that the ECB is buying Italian bonds
Fitch repeated that ECB bond buying and/or financing the EFSF/ESM is
the only solution – clearly right in my view and, I continue to
believe, the inevitable ultimate conclusion of this debate.
A number of analysts suggest that this saga will go on for a further
year – I do not. Personally, the Euro/Euro Zone wont survive for
another 3/6 months let alone a year if it carries on as is, suggesting
that the Euro Zone politicians/ECB will have to rethink.
Italian bond yields rose to near 7.0% yesterday;

Swiss authorities cut 2012 GDP forecasts to +0.5%, from +0.9%
previously and +1.8% for 2011. The higher Swissy and weaker demand
from the EU are the main issues. Deflation is also forecast for next
year – the estimate is -0.3%, as opposed to +0.3% previously;
French November harmonised CPI was +0.3% MoM or +2.7% YoY;

Inflation is expected to fall sharply next year – to around 3.0% by
the end of the 1st Q/ beginning of the 2nd Q. Around that time, the
BoE is very likely to increase its QE programme – current forecasts
suggest a further £125bn, increasing the aggregate size to £400bn.
UK November CPI came in at +0.2% MoM or +4.8% YoY, basically in line
with expectations;


European markets closed at their lows yesterday, though US markets
were off their lows. The Euro continues to decline as does Gold.
Interestingly, the VIX closed well off its highs yesterday.
European markets are marginally higher at present, but cant see any
reason to go long.

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