Super Mario Delivers

Mr Draghi (Super Mario) delivered yesterday, despite the leaks which virtually gave away the details of his announcement ahead of the press conference.

The EZ Central Banks (coordinated by the ECB), together with the ECB is to buy E60bn of government, ABS’s, covered bonds and agency debt, per month, commencing March 2015 up to at least September 2016, though Super Mario added that purchases would “in any case be conducted until we see a sustainable adjustment of inflation which is consistent with our aim of achieving inflation rates below, but close to 2.0% over the medium term”. 

In other words, this is open ended QE and the bond buying could go on a lot longer than September 2016 – likely.  The bonds purchased will have to be investment grade debt, though Mr Draghi did say that some additional eligibility criteria would be applied for EZ countries under an EU/IMF adjustment programme – yet another incentive for the Greeks to behave themselves.

The purchases will be proportionate to EZ countries so called “capital key” which equates to each country’s shareholdings in the ECB, which, in turn, is roughly equivalent to their relative GDP’s. 2 to 30 year bonds will be purchased and even bonds which are yielding negative rates. Approximately 20% of the bonds purchased will be subject to risk sharing, with the balance (80%) the responsibility of individual Central Banks. The 20% subject to risk sharing is made up of the ECB buying 12% of the monthly amount of E60bn in agency debt (such as the EIB), combined with a further 8.0% of purchases by national central banks which will be booked on the ECB’s balance sheet.

In aggregate, the ECB will not buy more than 25% of any one issue, or 33% of outstanding debt of any 1 EZ country, which, based on a E9tr EZ government bond market, gives you an idea of the potential scale.

He added, that Greek bonds could be purchased, though from July onwards. That announcement will keep the Greeks, even if Syriza wins, in check – clever move.

Super Mario also announced that the interest rate on the remaining TLTRO’s will be reduced and the 10bp charge on top of the MRO will be withdrawn. In effect the banks will be borrowing at 5bps, which should encourage banks to tap the facility. Recently, lending standards have been eased in the EZ, a trend which will continue.

Importantly, the entire ECB council stated that QE was a monetary policy, which diminishes German threats via their Constitutional Court (GCC), though no doubt the likes of Mr Sinn at the IFO will be heading to the GCC on his moped claiming rape and pillage. However, the decision as to the details of the QE programme were not backed unanimously, though by a sizeable majority. No doubt, the 2 Germans at the ECb (possibly 1or 2 more members) opposed the move. Minutes of the ECB meeting will be available in, I believe, a months time

The measures announced yesterday are hugely positive for EZ asset prices (currency hedged) and I remain bullish EZ equity markets. In addition, the EZ property sector may well start to improve which will result in a follow through in the economy. Indeed, I now  expect the EZ markets to outperform the US markets (once again, currency hedged) this year.

The equity market was slow to appreciate the momentous news yesterday, with the Euro and equities uncertain initially. I would have loved to buy more equities and short the Euro, though was up to my limits. I believe that yesterday’s announcement adds additional conviction to my view that the Euro is heading for US$1.10 shortly and, indeed, parity with the US$ this year.

There is a downside. Despite all this nonsense about the lack of risk sharing in the EZ (I dealt with this issue in yesterday’s note), the EZ, in effect, is in risk sharing mode for all intents and purposes. Super Mario effectively stated that. That could well mean that in a debt crisis involving 1 major country in the EZ, all hell will break loose. However, that’s something for another day.

I’m definitely a happy bunny. Will certainly be having a few glasses of the black stuff later tonight.

Have a good weekend

-Kiron Sarkar