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We Remain Confident that Spain is Solvent

Giordano Lombardo
calender-icon Posted on June 14, 2012


Those of you who read my last blog are familiar with Pioneer’s stance on the euro crisis. While much more complex than similar issues faced by the U.S. and UK, we believe the crisis will be resolved and that it will result in a more united Europe. That said, the ?100 billion loan approved by the Eurogroup to help recapitalize Spanish banks is a move in the right direction.

I’ve asked Cosimo Marasciulo, Pioneer’s Head of European Government Bonds and FX, to summarize his thoughts on the matter, which he has provided here . . .

Spain is the European country that has been put most under pressure by financial markets in recent weeks. Over the weekend, the Eurogroup approved a loan up to a ?100 billion that should help to recapitalize the Spanish banks, whose long-term credit rating was recently downgraded to BBB by Fitch Ratings – a cut which has also impacted the rating of the two major banks (Santander and BBVA). With the Spanish credit rating just two notches from junk, the fear in the market is that any uncertainty in the management of the crisis could lead to a further downgrade, which could inevitably impact on the country’s ability to finance its debt.

The size of the intervention represents the most positive news, since the Spanish banks will hopefully get enough money to face any upcoming stress event. In fact, the loan amount is far above the ?40 billion of capital needs estimated by the IMF.

What is the Impact on Spain’s Outlook?

  • We think that the assistance provided to the Spanish banks should help in cleaning up the banking sector and eventually restoring investor confidence, but the lack of details may still add volatility in the short term
  • We believe the market is overpricing, fearing that it will become difficult for the country to refinance its debt, as happened with Ireland
  • The eventual subordination of the debt (depending on the mechanism chosen to refinance the banking system) is weighing on the risk of a further downgrade of Spanish government debt
  • Spain has a projected deficit to GDP of 3.5% in 2013, and the public debt forecast by the IMF for 2013 is 84% of GDP, which could rise to 94% if they avail of the maximum loan amount.

Even in this case we remain confident that Spanish government debt is solvent.

In our opinion, the main uncertainty - beyond the fact that some details concerning the loan and its conditions are still not clear - is linked to the lack of a comprehensive solution for the euro crisis. The solution found is not yet fully conclusive, because it is only related to Spanish banks and it doesn’t take into consideration actions aimed at guaranteeing the banking deposits – a measure that would probably have been more effective.

In this environment markets remain extremely volatile, exposed to rumours and speculations on further actions of policy makers. With current price levels, we think that Spanish bonds can offer opportunities for investing with a medium-term view, keeping in mind that short-term periods of turbulence may remain.

To read more about Pioneer’s thoughts on Spain, read the Market Viewpoint: The Spanish Banking Sector Bailout, which can also be found on us.pioneerinvestments.com.

 

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