Sense on Cents

In my navigating the economic landscape, I have had the great fortune to meet some fascinating individuals. I thoroughly enjoy bringing the wisdom of these individuals to Sense on Cents. I recently crossed paths with an expert on shorting stocks. Who is this expert? Michael Shulman.

I will be hosting Michael this Sunday evening on No Quarter Radio’s Sense on Cents with Larry Doyle from 8-9pm ET.

In anticipation of that show, prudence dictates we get a healthy dose of sense on cents from Michael. He recently wrote at Seeking Alpha on the perils within the EU. What does Michael foresee? Let’s take a look at Michael’s commentary, Shorting the Euro Crisis, Shorting the Banks:

The debate about the euro crisis is now in our face, on television and on the front pages of newspapers – much of it among pundits who know too little and say too much. What all investors know is banks with too much sovereign debt are not going to be looked at kindly by investors.

Some facts or opinions are very hard to dispute:

• Most European countries have too much debt and have structural budget deficits that add to that debt. Greece, Portugal, Spain and Ireland are leading the way, and Italy will soon join that mix.
• The European country with the financial ability to make a difference – Germany – is the most debt and deficit averse and will step in only to save German banks, not other nations’ budgets.
• The debt exposure of European banks to the four countries in question is 2.1 trillion dollars. With a T.
• The underlying capital of most European banks is quite small compared to the US. Some German banks are levered 50 to one.
• Spain alone needs to raise half a trillion dollars this year in new bonds to fund deficits or roll over existing debt. The total tab for the four countries is north of a trillion and for European nations in total is more than two trillion.
• The continent is headed for a double dip due to the current crisis. Yes, this is an opinion. It will be fact in ninety days.

The bottom line: Europe as a continent, its individual nations and the European banking system are woefully undercapitalized. Given current levels of debt, current deficits and the current economic outlook, the four countries in question and Europe in general will not be able to raise the capital they need at acceptable interest rates. If they raise the debt at high interest rates they will soon be insolvent. This will lead to one of several scenarios:

• The ECB buys sovereign debt, essentially printing money. This will not happen without the explicit approval of Germany and France, which means if it happens it would be too little too late.

• The ECB buys bank debt independent of quality and the banks in turn buy sovereign debt. Not a bad solution but it would give the ECB a very loud voice inside the banking systems of member nations, something most would object to at first. Again, if this happens, it may be too little too late.

• Sovereign debt of several nations is “restructured” – default by another name – and the ECB and other euro countries make up the losses to the banks. That could be hundreds of billions of euros, maybe more. If this happens, and it is hard to see how it could happen, nations with their bonds being restructured will be quietly asked to abandon the euro, except Ireland as its situation was brought about not by fiscal irresponsibility but by lax oversight of the banking system.

All of this points to one thing: the place to go short is the banks. European banks are going to take a hit regardless of what happens. They will take a hit from restructuring, take a hit from the ECB printing money, and take a hit if they are forced to buy sovereign debt. They will also bear the brunt of a new and potentially savage recession in several countries or across the entire eurozone.

The names are familiar – UBS (UBS), Deutsche Bank (DB), Santander (STD), Credit Suisse (CS) – they are all breaking down.

On Sunday night, we will address these topics and so much more. Please join us.

LD

This entry was posted on Friday, June 4th, 2010 at 5:53 AM and is filed under General. You can follow any responses to this entry through the RSS 2.0 feed. You can skip to the end and leave a response. Pinging is currently not allowed.