Eq: Dev ex-US
There has been a lot of hype over the last week about the Bank of England’s new quantitative easing programme. However, the programme appears to be stumbling just as it begins because of a key issue—investors are unwilling to let the BOE buy their long-dated bonds. For this first time in the history of doing its QE (which it started in 2009), the BOE failed to reach its stated goal amount at an operation on Tuesday. The problem highlights why the programme as a whole might struggle, as investors are reticent to let go of their long-term bonds because they are the only place one can earn yield.
FINSUM: So negative rates and the search for yield has become so strong that investors won’t even part with their bonds when there is a willing buyer in the market. Will this be a big thorn in the side of the QE programme?
The Bank of England surprised markets today with a shock move to stimulate the UK economy following the country’s vote to leave the EU. The BOE cut rates by 25 basis points and re-launched QE to £70 bn per month of purchases. The bank also decided to add corporate bond buying to its purchase programme at volumes of £10 bn per month. The bank also presented the biggest decline to the growth outlook in more than 20 years. The big announcement came following some very poor economic data.
FINSUM: This was significantly bigger than most were expecting, so the BOE certainly has the “shock and awe” factor on its side.
Source: Financial Times
Several days ago we made call, saying that it seemed likely the EU would have to go against its own rules and use public funds to bailout Italy’s Monte dei Paschi and other troubled Italian lenders. That call appears to be starting to come true, as ECB chief Mario Draghi has now officially called for a public bailout given “exceptional circumstances”. Draghi said doing so would help avoid firesales. So far, Italy has been unsuccessful in trying to secure funding to save its banks, and it has thus far been unwilling to impose losses on private investors, as doing so would inflict harm on a great many Italian households.
FINSUM: We think the EU is going to be forced to come around on this. The reason why is that if they let Italian bondholders take the big losses, then the far-right party is going to steam roll through a referendum on Italian Euro membership on the back of popular anger, which would torpedo the currency and launch a new financial crisis.
Source: Financial Times
There is big trouble brewing in Italy. With so many important headlines swarming media outlets recently, it would have been easy to miss the potential banking-induced socio-political crisis brewing in Italy. Italy’s banks, as everyone knows, are in big trouble, and Monte dei Paschi is chief among them. The bank badly needs to raise capital to stay afloat, but experts say it will be virtually impossible to do so in private markets, which means a bailout may be necessary. However, new EU banking regulations dictate that a bank cannot be bailed out with public funds unless private investors have been wiped out first. Unsurprisingly, Italy is loath to let that happen considering ~$2.5 of the bank’s junior bonds are held by Italian households. Italy is working furiously to find a loophole in the regulations.
FINSUM: Just imagine how badly this could go. Italians are already livid about the state of their economy and largely blame the Euro. Now think what it could do if the EU tries to force a wipeout on Italian creditors. This could be the moment when tensions come to a boil.
Source: Wall Street Journal
We have not written much about Brexit over the last week or so, but we thought it might be time for a worthwhile update because of the event’s implications on the future of the Euro, and thus financial markets. Theresa May is now the UK’s new PM and she wasted no time in appointing a surprise cabinet, including big pro-Brexit campaigner Boris Johnson as her foreign secretary. Additionally, another hardline Brexiter David Davis will oversee the departure negotiations with the EU under the title of “Secretary of State for Exiting the European Union”. The article says Davis’ view on Britain’s Brexit plan and potential is woefully optimistic. It should be noted that Theresa May herself was a mild Remain supporter.
FINSUM: This preposterous cabinet makes it seem like the negotiations with the EU are going to progress very badly. We think the EU will be combative given the team assembled, and this could actually work against the bloc as it may infuriate some countries which are on the brink, like Italy.
Source: Financial Times
There has been a lot of bearishness about the future of Europe lately. Many investors are worried about the potential collapse of the Euro following the UK’s Brexit. However, this piece says that European stocks may just be too good of a deal to pass up. The article is based on a valuation metric that JP Morgan uses for measuring stocks. JP Morgan Asset Management’s argument is that the MSCI Europe ex-UK Index and the FTSE All-Share Index look cheap on a ten-year inflation adjusted basis, with ratios below their long-term averages. The head of European equity strategy at the firm says that “we can see nothing that suggests the referendum result will rock European confidence and growth particularly”, which would boost earnings for European companies and presumably help stocks.
FINSUM: We think this a very narrow view of the situation. Italy, Austria, and Hungary all already have major votes ahead that could hurt the EU and Euro. In our view, fundamental earnings-based investments should be an after thought until those hurdles are cleared.