Euro shrugs off European banking woes – BBH

Analysts at BBH suggest that the Eurozone is faced with an imminent problem, like Greece, is also the return of an old issue that has not been addressed: namely European banks.  

Key Quotes

“Spain's Banco Popular is in the cross-hairs.  Share prices fell by around a third in the second half of last week and were off another 16% today.  Its debt is also selling off.   This seems to be contributing to the rally in the sovereign CDS.  It was trading near 63 bp a month ago.  It is now near 78 bp.”

“Bad real estate loans are the main culprit.  It is trying to sell assets.  Reports suggest it has raised a little more than 200 mln euros in recent weeks by selling stakes in Targobank (jointly held with a French bank) and a real estate company.  It has sold treasury shares and Tier 1 notes issued by itself and other lenders.  It is also reportedly in talks to sell its US unit TotalBank.”

“Bank officials are to meet ECB officials tomorrow.  Its choices are getting to be stark.  Unload more assets quickly, find a buyer for the bank, or move into resolution.”

“Meanwhile, Italian banks are also in the spotlight.  Monte Dei Paschi recently reached an agreement with the EU that involves a precautionary recapitalization.  |It is unclear whether this can serve as a model for two other Italian banks (Banca Popolare di Vicenza and Veneto Banca.  A key issue is the extent to which the banks' shareholders and junior bondholders share in the burden of adjustment (i.e., haircut).”

“An index of Italian bank shares eased by around 6.3% in January and February before rebounded 18% in March and April.  It was off 1.1% last month when it finished with a five-day slide.  It was up 0.65% last Thursday and Friday and is off 1.6% today.     March and April were also good months for the bank index within the Dow Jones Stoxx 600 when it rose 15%.  It fell 2.2% last month.  Like Italy, the European bank index is giving back today everything it made in the second half of last week plus some.”

“On a purely directional basis, the euro's correlation with the Dow Jones Stoxx 600 bank index reached a three-year high near 0.90 in the middle of last month on a 60-day rolling basis.  The correlation has eased a bit, but at 0.66 it is still fairly strong about the last several years.  Still, the decoupling is evident, as the bank share index peaked on May 5 and the euro made new highs for the year before the weekend.”  

“In addition to Spanish and Italian banks, there is also concern about Portuguese banks.  The largest banks are still putting funds aside to cover bank loans.  Portugal's largest publicly traded bank put a record 1.6 bln euros aside last year for impairments.  Caixa Geral, which is already owned by the state, put three bln euros aside for impairments and provisions in 2016.”

“The banking challenges in these three periphery countries do not pose the systemic risk that they may have a couple of years ago.  The euro is benefiting from the lifting of political uncertainty in Europe and increasing questions about US politics.  At the same time, more skepticism about the health of the US economy and the ability of President Trump to enact his economic agenda also help underpin the euro through the interest rate and portfolio flow channels.”