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Market Blog: Yes Monti, we're not convinced by Europe

Italian prime minister Mario Monti sums up the mood after Greece's election result. 'We can see that the markets are not convinced.'

Market Blog: Yes Monti, we're not convinced by Europe
  • Stock market relief rally is short-lived after pro-bailout New Democracy win Greek election  
  • Caution about formation of Greek coalition and renegotiation of austerity measures
  • Spanish and Italian bond yields drop initially, but then climb sharply
  • Euro shoots up to $1.274 , but gains then pared
  • In Britain, banks are the biggest losers as FTSE moves in and out of negative territory
  • Tesco edges higher on news it will pull out of Japan.

17.00: Something useful has come out of the G20 talking shop in Mexico, even if it is more words.

Italian prime minister Mario Monti is reported to have said: 'We can see that the markets are not convinced. We must draw up a definitive and clear road map with concrete actions that make the euro more credible.'

His comments came as the election victory of the New Democracy party in Greece lifted the immediate threat of the country's expulsion from the eurozone. However, it did nothing to ease the financial pressure on Italy and Spain whose 10-year borrowing costs rose above 6% and 7% respectively.

The FTSE 100 closed 12 points, or 0.2%, up at 5,491 with the FTSE Euronext 100 becalmed at 587. In the US the S&P 500 traded virtually unchanged at 1,342.

15.23: The Greek election result may not have provided much succour to European investors today, but it has at least helped the euro bloc’s sovereigns hang onto some of what credibility remains to them: ‘Fitch will not place all eurozone sovereigns on Rating Watch Negative as it had indicated would be the case if a Greek euro exit were a probable near-term event,’ the ratings agency has just said in a press release.

After the elections ‘the near-term risk of a Greek disorderly debt default and exit from the euro has fallen.’

But the crisis remains unresolved.

Fitch: Greece and Europe: Back from the Brink, Crisis Unresolved

Fitch Ratings-London-18 June 2012: The narrow victory of New Democracy in the Greek parliamentary elections means the near-term risk of a Greek disorderly debt default and exit from the euro has fallen. A new government that is supportive of the EU-IMF programme is likely to be in place prior to the EU Leaders Summit on 28-29 June.

Consequently, Fitch will not place all eurozone sovereigns on Rating Watch Negative as it had indicated would be the case if a Greek euro exit were a probable near-term event.

The crisis in Greece and the eurozone remains intense. Fiscal austerity and painful structural reform combined with a strong parliamentary opposition led by Sryzia means that the new Greek government is likely to be fragile.

The pace of economic contraction is almost certainly accelerating. The country's liquidity position is fast deteriorating, underscoring the urgency of forming a new government and the resumption of disbursements under the EU-IMF programme. It will be challenging to significantly ease the austerity programme without receiving additional funds, although there is some room for manoeuvre on the financing profile of the existing programme.

While the risks from Greece have fallen for now, the severity of the systemic crisis engulfing the eurozone is unlikely to diminish until European leaders articulate a credible road-map that would complete monetary union with much greater fiscal and financial integration.

Downward pressure on the sovereign credit profile and ratings of eurozone sovereign governments will intensify so long as a credible path to closer union and a more coherent and united policy response are absent. This includes further boosting the financial backstops against contagion.

Meanwhile a draft communique from the G20 says eurozone countries have agreed to 'take all necessary measures to safeguard the region's integrity', while urging them to end the 'feedback loop' between sovereign states and banks, according to a Reuters report.

14.45: The downbeat mood stretches to the US where the Dow Jones has begun trading 30 points, or 0.24% lower, at 14,742. The FTSE 100 is nine points up at 5,488.

Time to catch up with some UK share news:

Tesco (TSCO.L) has edged 1.8p higher to 303p after saying it will pull out of Japan. The supermarket group, which badly needs to focus on its home market, is paying Aeon Corp, the country's second largest retailer, to take the loss-making business off its hands. In a two-step process it will sell half its shares in Tesco Japan for a nominal sum to Aeon. It will then invest £40 million in the joint venture before pulling free.

Melrose (MRO.L), the industrial buyouts group, has finally found a target. Its shares dropped 12p or 3.2% to 370.3p as it revealed talks to buy German utility meter maker Elster group for $2.3 billion. The group is considering offering $20.50 for Elster's american depository share (ADR), which would be 15% above Friday's closing price. Melrose walked away from a bid for Charter International last year after Colfax of the US tabled a higher offer. Its last big deal was in 2008 when it bought crane and hooks maker FKI for £478 million.

Man Group (EMG.L) shares held steady as the hedge fund manager announced the departure of finance director Kevin Hayes. This is the second loss of an executive in a week following the decision of its head of research to join ISAM, a rival launched by Man's former chief executive, Stanley Fink. The stock has just dropped out of the FTSE 100 having fallen 41% since the start of the year as a result of performance problems at its flagship AHL fund.

Cable & Wireless Worldwide (CWP.L) jumped 7.8% or 2.7p to 37.8p as the £1 billion bid from Vodafone (VOD.L) got the backing of Orbis, the Bermuda-based fund that owns 19% of C&W. Orbis had originally deemed the 38p per share offer too low. Getting hold of C&W's fibreopitc network will improve Vodafone's proposition to business customers. Its shares firmed over half a penny to 174.3p.

Majestic Wine (MJW.L) fell 9.75p, or 2.4%, to 402.25p after announcing a 14% rise in full-year profits and a 22% increase in the final dividend helped by strong sales of fine wines priced at over £20 a bottle.

DS Smith (SMDS.L) softened 1.8p to 139p after the producer of recycled corrugated paper said its acquisition of SCA Packaging would complete at the end of the month.

13.21: Ireland could get a big extension to the deadline for paying back its European Union bailout loans, according to a report.

Irish state broadcaster RTE is reporting that the Troika (the EU, International Monetary Fund and European Central Bank) is considering 'significant changes' to Irish bailout terms.

‘In an effort to secure a return of Ireland to the markets sources say it is considering adjusting the terms of the country's repayments, which would see the country paying back EU loans over an average of 30 years instead of the current 15 years.

'Troika sources said the step is being considered in an effort to convince the markets that private sector bondholders would not be burned in future by Ireland.'

12.01: India is fast falling from investors’ grace.

First the country’s central bank failed to cut interest rates when it met this morning, disappointing many investors who had hoped slowing economic growth would trump the reserve bank’s focus on taming inflation.

Then, a few moments ago ratings agency Fitch revised India’s outlook to negative from stable, citing the lack of reforms that has so frustrated investors in the country, while affirming a BBB- rating.

Fitch Ratings-Hong Kong-18 June 2012: Fitch Ratings has revised India's Outlook to Negative from Stable. Its Long-Term Foreign- and Local-Currency Issuer Default Ratings (IDRs) have been affirmed at 'BBB-' and Short-Term Foreign Currency at 'F3'. India's Country Ceiling is also affirmed at 'BBB-'.

The Outlook revision reflects heightened risks that India's medium- to long-term growth potential will gradually deteriorate if further structural reforms are not hastened, including measures to enhance the effectiveness of the government and create a more positive operational environment for business and private investments. The Negative Outlook also reflects India's limited progress on fiscal consolidation and, in particular, on reducing the central government deficit despite improvement in the financial health of state governments.

"Against the backdrop of persistent inflation pressures and weak public finances, there is an even greater onus on effective government policies and reforms that would ensure India can navigate the turbulent global economic and financial environment and underpin confidence in the long-run growth potential of the Indian economy," said Art Woo, Director in Fitch's Asia-Pacific Sovereign Ratings group.

The rating affirmation reflects India's diversified economy and its high domestic savings which reduce reliance on foreign investors for private investment and fiscal funding. The Indian government is able to issue long-term debt at a low cost in its own currency. Net external debt is very low and still high foreign exchange reserves of the Reserve Bank of India (RBI) provide a cushion against potential external shocks. The underlying drivers of the last decade of rapid economic growth remain in place - a fast growing pool of educated workers and an innovative private services sector.

Fitch, however, notes that India faces an awkward combination of slowing growth and still-elevated inflation. Real GDP grew just 6.5% yoy in FY2011-12 (end-March 2012), down from an 8.4% rise in FY2010-11. India also faces structural challenges surrounding its investment climate in the form of corruption and inadequate economic reforms. Fitch forecasts real GDP to rise 6.5% yoy in FY13, down from a previous projection of 7.5%. Headline wholesale price index (WPI) rose 7.6% yoy in May 2012, up from 7.2% yoy in April. Fitch is projecting WPI to rise by an average of 7.5% in FY2012-13 which, though lower than the 8.8% rise in FY2011-12, continues to be higher and stickier than Fitch previously expected, diminishing scope for monetary policy flexibility.

India's public finances are a key rating weakness compared with other 'BBB'-rated sovereigns, which constrains scope for fiscal policy flexibility. Fitch estimated general government debt stood at 66% of GDP at end-FY2011-12, against the 'BBB' median of 39%. Moreover, India's government revenue in-take is low at 19.4% of GDP. The central government fiscal deficit climbed to 5.8% of GDP in FY2011-12, against a target of 4.6%, largely reflecting an overshoot in subsidy spending. The government has repeatedly delayed reforms to the tax and subsidy systems. The confluence of weaker economic growth and a large subsidy bill means India will likely miss its 5.1% of GDP deficit target for FY2012-13; Fitch expects it to be 5.6%-5.9% of GDP. General elections due in early 2014 could see politically driven pressure to loosen fiscal policy, which could further weaken India's public finances relative to peers.

India's external financial position remains a rating strength, although this is eroding as foreign exchange reserves have fallen (11% since August 2011) and net external indebtedness is rising. Reserves remained at USD286bn as of end-May 2012, equal to six months of current external payments, which still provides the sovereign with an important buffer during periods of elevated global risk aversion. The sovereign is a net external creditor to the tune of 10.2% of GDP at end-FY2011-12, against the 'BBB' median of 3.3% of GDP or the 'BB' median of negative 4.1% of GDP. Slowing growth should curb the current account deficit and slow the weakening of the external finances, although oil prices pose a risk. Prolonged and intensified pressure on the currency and/or foreign reserves would be negative for the credit profile.

A significant loosening of fiscal policy, which leads to an increase in the gross general government debt/GDP ratio, would result in a downgrade of India's sovereign ratings. In addition, a material downward revision of Fitch's assessment of the India's medium-term growth potential along with persistent high inflationary pressure would hurt India's sovereign creditworthiness. Conversely, an improvement in India's investment climate, which supports greater infrastructure investment and a sharp sustained decline in inflation, would be supportive for India's sovereign ratings. Fiscal consolidation and structural budget reform would also support the ratings.

Last week fellow ratings agency Standard & Poors warned that India could become the first 'Bric' country to lose its investment grade rating.

India’s Sensex equity index has dropped 10.68% over the past year, compared with a 2.5% gain on the MSCI Emerging Markets index.

Please visit our full site to view this interactive chart

09.42: The relief rally after Greece's elections has proven remarkably short-lived, with equity markets turning negative and investors demanding higher yields to buy Spanish debt.

The election result, thought positive for markets, has not removed the risks for the rest of the eurozone.

Spain's Ibex stock index and Italian FTSE MIB are both off around 1.8%. Spain's borrowing costs have jumped to a new euro-era high of 7.136% - see chart below.

Britain's FTSE 100 is down 0.1% at 5,469. Banks are the biggest losers, with Lloyds (LLOY.L) off 1p or 3.4% to 30.2p and Royal Bank of Scotland (RBS.L) 6.7p or 2.7% lower to 240.5p. They had been the biggest risers in early trade.

See posts below for comment on the weakness of this morning's brief relief rally and read Rob Kyprianou's opinion on yesterday's Greek election result: Greece's election buys time – but Europe must act fast

09.09: The rally feels quite ‘muted’, Craig Veysey, Principal Investment Management’s head of fixed income, said as equity markets struggle to make gains of 1% and peripheral country’s borrowing costs reverse their earlier falls.

‘I don’t think the market rally has been as positive as some people thought it would be last week...There is so much uncertainty; you can’t just resolve that with the elections yesterday,' Veysey said in an interview this morning.

Veysey said that in particular, negotiations between a coalition government formed by vote winners New Democracy with the European authorities and International Monetary Fund would involve ‘a lot of bartering back and forth’.

‘How can Greece stay in the eurozone in any case? It needs further restructuring of debt in the next 12 months or so.

‘Italy and Spain have still got to resolve their underlying problems. They need a fiscal union and banking union, as well as the joint issuance of bonds and insurance for banking deposits throughout the eurozone,' he said, in addition to monetary policy measures.

  • The FTSE 100 is up 41 points or 0.75% to 5,519, with other European markets making similar gains.
  • Greece’s ATG index is soaring 6.88% higher
  • The Brent crude oil price, which has been declining from its March peak,  is up 0.6% amid the optimism, to $98.20.

08.05: Is this merely a 'Pyrrhic Victory'? questioned analysts at Citigroup as amid stock market relief, initial reaction to last night’s election was cautious.

Though the New Democracy Party’s narrow victory (see below) means a Greek exit from the eurozone is unlikely in the near term, that has not removed the risk of a Grexit in the longer term.

Amid concerns about attempts to form a coalition between ND and the Pasok party, and then renegotiate bailout terms, Citi analysts wrote:

‘Initial reactions from European officials welcome the outcome of the election, but made very clear that the there is little room for the new government to change the existing bailout programme.

‘With this in mind, our probabilities for Grexit remain unchanged in the range between 50% and 75% over the next 12 to 18 months.’

‘ND and PASOK remain uneasy coalition partners, austerity deeply unpopular with the Greek people, and easily available alternatives in short supply.’

Commerzbank economists were even more downbeat, pointing to the problems that remain in Italy and Spain:

‘The election result, which is positive from a market perspective, could being some temporary relief to Italy and Spain.

‘On the other hand, the outcome of the Greek election will not of course solve their own problems. Looking ahead to the next few weeks the impact could even prove negative, as the (no doubt merely) temporary calming of the markets could alleviate the pressure on politicians to act and hence reduce the chance of a more substantial response from governments to the crisis at the next EU summit on 28 and 29 June.

‘Haircuts will therefore start tending higher again, which could well prompt a bigger reaction from the ECB and Eurozone governments in the coming months.'

Please visit our full site to view this interactive chart

07.35: The euro and Asian markets jumped as the leftist Syriza party was beaten by the New Democracy Party in the Greek elections, with ND leader Antonis Samaras (pictured) claiming Greeks had voted to stay ‘anchored’ to the euro.

The single currency went as high as $1.2748 on relief that the stridently anti-austerity Syriza Party did not come out on top. In Asia, Japan’s Nikkei 225 rose 1.7% and the Hong Kong Hang Seng index rose 1%, ahead of expected gains on European markets.

Peripheral country borrowing costs dropped: in Spain 10 year government bond yields fell below 6.8% before rising slightly; equivalent Italian yields fell below 6% to 5.85%.

Samaras said: ‘Today the Greek people expressed their will to stay anchored with the euro, remain an integral part of the euro, honour the country’s commitments and force their growth. This is a victory for all Europe.’

But while more than 99% of votes counted put New Democracy on 29.7% of the vote with 129 seats, Syriza on 26.9% (71 seats) and the Pasok party – with whom ND are expected to form a coalition – on 12.3% (33), any stock market gains will likely be capped amid caution: even the ND wants to make changes to the austerity conditions and it must now form a coalition.

Samaras said he would seek to ‘supplement the current policy mix with growth enhancement policies’.

He was ‘determined to do what it takes and do it fast’.

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