achtung baby- germany is riskier than you think · 2015. 5. 6. · achtung baby: germany is riskier...
Post on 06-Mar-2021
0 Views
Preview:
TRANSCRIPT
Achtung Baby:Germany Is Riskier than You Think
June 2012
2
Weaker Eurozone Countries Owe GermanyMoney on a Massive Scale
“If you owe the bank $100, that’s your problem. If you owe the bank $100 million, that’s the bank’s problem.”
– J. Paul Getty (1892-1976)
3
1. Germany becomes an export powerhouse because of the Euro
The effective exchange rate was set far too low vs. other Euro countries
2. German banks financed the export boom
Financed the current account deficits of the periphery
Lent German excess savings into periphery housing bubbles
3. The Bundesbank has replaced the exposure to peripheral debt that the German banks reduced
Periphery debt is now the Federal Republic of Germany’s problem
Germany Made Bad Loans but Still Wants its Money Back
Source: Bank for International Settlements and Bundesbank.
-
200
400
600
800
1,000
Mar
-01
Jul-0
1N
ov-0
1M
ar-0
2Ju
l-02
Nov
-02
Mar
-03
Jul-0
3N
ov-0
3M
ar-0
4Ju
l-04
Nov
-04
Mar
-05
Jul-0
5N
ov-0
5M
ar-0
6Ju
l-06
Nov
-06
Mar
-07
Jul-0
7N
ov-0
7M
ar-0
8Ju
l-08
Nov
-08
Mar
-09
Jul-0
9N
ov-0
9M
ar-1
0Ju
l-10
Nov
-10
Mar
-11
Jul-1
1N
ov-1
1M
ar-1
2
€B
illio
ns
German Bank Claims on Periphery Countries Plus TARGET 2 Balances
BIS balance vis-à-vis periphery Target2 Balance
Private risks
Public risks
4
Transmission Mechanisms Bring Periphery Debt Back to Germany
4. Fall in exports
3. Private bank losses
1. Bundesbank losses
2. Rescue payouts
5
Germany Weighs Its Two Choices
Save the EuroLet the Euro Break Apart
Bundesbank Losses
Private Bank Losses
Severe Export Decline
Pay for Rescue Programs
Private Bank Losses
Export Decline
6
The Market Doesn’t Understand the Magnitude of Germany’s Future Losses
Transmission Mechanism Euro Stays Together Euro Breaks Apart
Bundesbank Losses Through TARGET2 Balances €0 €637 Billion
Germany’s Share of the Rescue Funds (ESM/EFSF/EFSM) €419 Billion €94 Billion
Private Bank Losses from Exposure to Periphery Debt €80 Billion €200 Billion
Fall in Exports Over The Next 5 Years €80 Billion €375 Billion
Total Estimate €579 Billion €1.31 Trillion
Estimated Total Debt-to-GDP 103% Debt-to-GDP 131% Debt-to-GDP
The Cost to Save the Euro is Much Less Than to Let It Fall Apart, but Do the Germans Have the Political Will?
7
1. Periphery Will Owe the Bundesbank€1 Trillion by the End of 2012
Periphery banks had to replace funding as the interbank market froze in 2007They were forced rely on their own central banks as the funder of last resort
Since mid-2011 the need for this type of funding has accelerated
The Bundesbank has large exposures to the ECB and other central banks
German claims are on pace to increase from current amount of €657 billion to €1.1 trillion by end of 2012
If a member leaves the Euro the amount owed to the ECB becomes a loss for the remaining members
Source: National Central Banks, J.P. Morgan and Bundesbank.
R² = 0.9628
€0
€200,000
€400,000
€600,000
€800,000
€1,000,000
€1,200,000
Euro
s in
Mill
ions
TARGET2 Claims are Rising Quickly
Bundesbank TARGET2 Claims Polynomial Regression
(in tri llions)
Debt € 2,095 € 211 € 190 € 18 € 26 € 2,539
80.0%
82.0%
84.0%
86.0%
88.0%
90.0%
92.0%
94.0%
96.0%
98.0%
100.0%
Current Debtto GDP
EFSFExposure
ESMExposure
EFSMExposure
2012 BudgetDeficit
Total
De
bt-
to-G
DP
Germany's Debt-to-GDP Can Quickly Reach 100%
8
2. Germany’s Obligation for Rescue Programs Is €419 Billion and Could Increase
Germany’s debt-to-GDP would reach 100%
Well above the 90% that Reinhart and Rogoff suggest as slowing GDP growth
Cost for saving the Euro is approximately €579 billion
This compares with the estimated €1.4 trillion to reunify East and West Germany
Any movements towards a fiscal not just monetary union will involve more explicit transfers
Source: JPMorgan and CAM estimates.
€0
€100,000
€200,000
€300,000
€400,000
€500,000
€600,000
€700,000
€800,000
€900,000
€1,000,000
Jun.1
99
9Ju
n.2
00
0M
ar.
200
1D
ec.
200
1S
ep.2
002
Jun.2
00
3M
ar.
200
4D
ec.
200
4S
ep.2
005
Jun.2
00
6M
ar.
200
7D
ec.
200
7S
ep.2
008
Jun.2
00
9M
ar.
201
0D
ec.
201
0S
ep.2
011
Eu
ros
in
millio
ns
German Bank Exposure to GIIPS
9
3. German Banks Could Lose Substantial Portions of Their Current Equity
The €438 billion of exposure is still 40% greater than the estimated €310 billion of German bank equity
As late as December 2011, German banks had €33 billion of exposure to Greece
This does not count the CDS on Greece that German Banks have written
Should the Eurozone split, German banks would likely suffer both large credit losses and currency losses
Source: Bank for International Settlements.
20.0
30.0
40.0
50.0
60.0
70.0
80.0
90.0
100.0
110.0
120.0
Dec
-07
Mar
-08
Jun-
08
Sep
-08
Dec
-08
Mar
-09
Jun-
09
Sep
-09
Dec
-09
Mar
-10
Jun-
10
Sep
-10
Dec
-10
Mar
-11
Jun-
11
Sep
-11
Dec
-11
LTM
Net
exp
orts
in €
Bn
German Net Exports
Net Exports Euro Net Exports GIPS
10
4. Exports Will Fall in the Next Several Years
For the twelve months ending Jan 2012, Eurozone countries were 57% of net exports
This figure has been as high as 81%
Should the Euro dissolve, we would expect that net exports would fall to at least where they were at the beginning of the Euro (1999)
Germany could become a net importer as exports become more expensive in neo-Pesetas or neo-Drachmas and imports in neo-Deutsche Marks fall in price
Exports are currently ~40% of the German economy
Source: German Federal Statistics Office.
35
50
65
80
95
110
125
140
German Debt-to-GDP
Plus estimated €1.3Tn losses in Euro breakup
Plus estimated €0.6Tn expense to "save" Euro
11
Debt-to-GDP Will Rise and German Credit Default Will Widen
Source: IMF and CAM Estimates.
US UK
Spain
Italy
France
China
Germany
Iceland
0
100
200
300
400
500
600
40 60 80 100 120 140 160 180
Cur
rent
10-
yr C
DS
Spr
eads
YE 2011 Debt-to-GDP Ratio
German CDS is Likely to Widen
CAM Estfor Germany(Euro integration)
CAM Estfor Germany(Euro collapse)
EurozoneGDP Weighted Avg
Source: CIA World Factbook and Bloomberg
12
10-Year Bund Yields Could Go Negative
Inherent currency option in Bunds If bonds are redenominated into Deutsche Marks, currency gain can offset the yield loss
For the currency, we used the European Commission’s own estimates of Real Effective Exchange Rates
For liquidity, we examined the moves in the US Treasury post Lehman Brothers default
For where rates should be, we used the Taylor rule
We added the average shape of the yield curve and made an adjustment for the need to keep the markets liquid
Source: Bloomberg.
-2
0
2
4
6
8
10
German 10-Yr Bund Yields
Bund yields can trade in this range given the markets fear of redenomination,liquity needs and desire for safe haven
13
Preferred Investment:10-Year German CDS
Source: Bloomberg.
0
50
100
150
200
250
Jan‐09
Mar‐09
May‐09
Jul‐09
Sep‐09
Nov‐09
Jan‐10
Mar‐10
May‐10
Jul‐10
Sep‐10
Nov‐10
Jan‐11
Mar‐11
May‐11
Jul‐11
Sep‐11
Nov‐11
Jan‐12
Mar‐12
May‐12
Jul‐12
Sep‐12
Nov‐12
Purchases of 10‐yr CDS
CAM estimated trading range
14
Investment Summary
Rationale The market underestimates the risk to Germany posed by its exposure to periphery debt
Expected Return
We expect that within a year, German CDS will widen to 200, which would provide a 2.2x return on the premium we have spentEven at current levels the return will be 1.4x
Instrument
10-year credit default on the Federal Republic of Germany (first purchased in June 2011)Our notional amount is much larger than our Spain CDS position
Average of 0.8% of notional per annum – effectively an option premium on the default of Germany during the next 10 years
Cost/Capital Commitment
Appendix
How Did Periphery Debt Become Germany’s Problem?
17
Until 2007, German Savings Helped Build Projects in High Growth Areas
Spanish builderborrows for a project Spanish bank borrows from
a German bank in the whole-sale market; lends to the builder
German bank takes deposits from German savers and not finding interesting German investments, lends the money to a Spanish bank in the wholesale market
German saver takes his hard earned savings and puts it into a German bank
What is at risk
If the project fails the developer loses his equity, but then it is owned by the bank
Once the bank owns the property, losses beyond the equity of the bank are shared with the lenders
Once the bank eats through its own equity, the losses should be shared with lenders
Depositors are usually guaranteed by a deposit fund, which is funded by banks but backstopped by taxpayers (depositors)
2007: 10% equity 2007: 18x leverage (5.6% equity)
2007: 30x leverage (3.3% equity)
Simple example, but not that far from loss (~19% loss)
€0
€50
€100
€150
€200
€250
€300
Mar
.200
0S
ep.2
000
Mar
.200
1S
ep.2
001
Mar
.200
2S
ep.2
002
Mar
.200
3S
ep.2
003
Mar
.200
4S
ep.2
004
Mar
.200
5S
ep.2
005
Mar
.200
6S
ep.2
006
Mar
.200
7S
ep.2
007
Mar
.200
8S
ep.2
008
Mar
.200
9S
ep.2
009
Mar
.201
0S
ep.2
010
Mar
.201
1S
ep.2
011
Euro
in B
illio
ns
Cumulative Changes of German Bank Claims on GIIPS Countries
Greece Ireland Italy Portugal Spain
Both Ireland and Spain hadlarge housing bubbles
18
German Bank Asset Balances Developed as Housing Bubbles Appeared
German banks lent directly into the asset bubbles in Spain and Ireland
Lending to Italy was smaller than lending to Ireland despite the fact that Italy’s economy was 8x the size (2007 numbers)
German private lenders realized their mistakes and have withdrawn €478bn from the GIIPS between June 2008 and December 2011
Source: Bank for International Settlements.
19
How the Balances Built Up and Where We Are Currently
Spanish builder is having difficulty, gets extension on loan from Spanish bank
Step 1: German bank refuses to roll loan to Spanish bank – returns € to German bank
Step 2: German bank looking for safety places € at the Bundesbank
Step 3: needing to replace financing, Spanish bank borrows from Banco de Espana
Step 4: Simultaneously the NCB’s borrow and lend from the ECB
The German saver is unaware of what has happened
20
Who Ended Up Taking the Risk?
21
TARGET2 Ballooned as Banks Became Fearful of Lending to One Another
TARGET2 stands for Trans-European Automated Real-time Gross Settlement Express Transfer System
Allows for imbalances that have built up in the system to balance out
Typically this is taken care of in the interbank market
Normally, if the Spanish bank loses some interbank funding it would agree to pay some more and borrow from a different bank in the Euro-system, keeping balances low
But when the interbank market stops functioning efficiently, TARGET2 balances build up
22
These Balances Are a German Asset if the Euro Breaks Apart
“The Bundesbank’s Target2 claims do not constitute a risk themselves because…the idea that the monetary union would fall apart is absurd.” Jens Weidmann – Bundesbank President 3/15/12
Odds a country leaves the Euro by YE 2013 So long as the Euro remains in place these balances do not present a risk
But this is akin to saying that “so long as my creditor keeps paying, I have no credit risk.”
As countries exit the Union, the temptation to default on amounts owed to the ECB/EU/IMF will be high
Greece owed €104bn as of 3/31/12
The ECB would need to be recapitalized by the member countries
Would weak countries really be able to pay?
“The way things are going,…the Euro area has a significant risk of breaking up.”Olli Rehn – European Commissioner for Economic and Financial Affairs 5/31/12
Source: www.intrade.com.
Why Germany Cannot Afford the Euro to Break Apart
24
What Is the Capital of the ECB/Eurosystemto Absorb a Euro Break-Up?
ECB
BUBA
BdEBoG
NCB4
NCB5
NCB17
The capital of the Eurosystem:Book Equity € 86BnRevaluation €399BnTotal €485Bn
As of May 11th, 2012
The capital of the ECB:Book Equity € 6BnRevaluation € 24BnTotal € 30Bn
As of December 31st, 2011
Key: BoG = Bank of Greece, BdE = Banco de España, BUBA = Bundesbank, NCB = National Central Bank of which there a currently 17
“Revaluation” accounts for the increase in the value of asset holdings, mostly Gold
25
ECB Exposure to Greece
We believe that the current number is higher as the last TARGET2 balance sheet date was almost a quarter ago
During this time Greek banks have experienced deposit flight
A Greek exit from the Eurozone would cost the ECB at least this amountThe Eurosystem as a whole has enough capital to bear this loss
Germany losses would amount to €43bn which is 32% of the Bundesbank’s capital
If this causes others to leave, recapitalizing the ECB would become harder, more expensive with more of the burden falling on Germany
Source of ECB Exposure Amount As of date Data SourceSMP (Direct purchases of bonds) € 51,871,861,000 5/17/2012 BloombergGreek TARGET2 Balance € 103,735,616,784 3/31/2012 Bank of Greece
Total € 155,607,477,784
There Have Been Many Rumors of a “Grexit”; Could This Be the First?
26
If Greece Leaves, the Bundesbank Has to Rely More Heavily on Just the ECB
ECB
BUBA
BdEBoG
NCB4
NCB5
NCB17
Key: BoG = Bank of Greece, BdE = Banco de España, BUBA = Bundesbank, NCB = National Central Bank of which there a currently 17
BoG
If the BoG leaves, the concept that no country can leave the Euro will be broken. NCBs of weaker countries will be called into question.
Suddenly, the capital of theEurosystem looks more like thecapital of just the ECB, withlimited ability to absorb losses
27
What Starts to Be Horrific for Germany Is the Situation Where Multiple Countries Exit
ECB
BUBA
BdEBoG
NCB4
NCB5
NCB17
Key: BoG = Bank of Greece, BdE = Banco de España, BUBA = Bundesbank, NCB = National Central Bank of which there a currently 17
BoGBdE
NCB17
Rather than being recapitalized, the ECB now becomes a debtor to the remaining countriesThose debts are what the ECB owes from the TARGET2 systemFar from being a worthy debtor, the ECB has no assets at this point
It would be forced to print to repay
Recapping the ECB is supposed to be weighted by GDP, but only 4 countries lend to the ECB via Target2 – the real risk lies on them
How Will Germany Deal with Its Problem?
29
What Is the End Game?
Current Situation
Breakup Full Union
Lots of pathways to these two endpoints
European monetary unions have been tried before and failed….
Latin Monetary Union (Belgium, Italy, Switzerland, France, Greece)
Scandinavian Monetary Union (Sweden, Denmark, Norway)
…But in the case of German Customs Union (“Zollverein”), it ended with a single nation state
What would a “US of E” look like economically?
2011 Debt to GDP = 86.4%
2011 Budget Deficit = 4.1%
Bank Assets to GDP = 3.1x
Bank leverage =19.0x
France currently has almost these exact numbersWould the US of E trade about where France is now?
30
Keeping the Euro Together Will Be Hard
The EMU is the most “dispersed” actual or potential monetary union shown
“All countries that begin with the letter ‘M’” are less different than the EMU
Stitching together a separated Germany was slow and expensive (€1.4 trillion)
This despite strong cultural, even familial connections
What will be the ultimate cost of holding Europe together?
31
What Would Work Only Temporarily
The LTRO pumped €1 Trillion of liquidity in to Eurozone banks and stabilized them for a short time
But this program effectively subordinates other liability holders (including depositors) and seems to have tied up much of the available collateral
Pan-European Deposit Scheme – have the ECB or some other European body guarantee all the deposits of Eurozone banks
This might help banks that have been experiencing deposit flight for credit reasons (Spain)
But unlikely to help those that are experiencing deposit flight because of fear currency redenomination (Greece)
Eurobonds – bonds issued by a European body that are “joint and severally liable”
If the issuing body is to be given unlimited issuing power, we do not believe that this would pass under Germany’s Federal Constitutional Court
If it is limited, we do not see much difference to the current ESFM/EFSF/ESM system
32
What Would Work Long-Term
A United States of Europe – central taxing authority, popularly elected head of state, ability to move funds freely from state to state, single set of regulations
We view this as almost impossible to achieve politically
A Marshall Plan for the periphery – be it grants, loan forgiveness or write-offs – a direct transfer of funds from creditor nations to debtor nations within the Eurozone
This is possible politically
The Marshall Plan was originally sold to the US body politic as a way to spur markets for their goods, which we think is reasonable in this case
But the ravages of war were clear in the late 1940’s and the US also feared the rise of the Communist Party in Europe
Currently, the debtor nations are seen as being profligate by the creditor nations and there is no ideological “bogey man”
33
Can Germany’s Past Currency Union Provide the Roadmap?
Starting in 1818, the Zollverein or “Customs Union” created a large single currency and trade union amongst the principalities of German speaking people
In 1862, Otto von Bismarck was appointed Minister-President of Prussia and in the next decade succeeded in forging a unified German State
While much of the work was done through diplomacy, Bismarck was unafraid to use military power as well
“The great questions of the time will not be resolved by speeches and majority decisions,…but by iron and blood.”
- Otto von Bismarck (Sept 30, 1862)
Will a leader emerge in the current crisis to draw Europe together?
Will it be possible without bloodshed?
Disclosure
34
This document is intended for informational purposes only. It is not an invitation or offer topurchase interests in any Fund. Any representation to the contrary is not permitted.
Any Fund or investment involves risk. Potential investors must familiarize themselves with theoffering materials related to such investment and must meet certain investment sophisticationlevels in order to make such investments and must be able to fully absorb the risk associated withsuch investments. The Offering Memorandum for the Fund and related Subscription Agreementand Limited Partnership Agreement will be made available to those who demonstrate the capacityto evaluate the risks and merits of this investment.
The past performance of any Fund or investment discussed herein is no indication of futureresults that may be achieved by an investment in the Fund. The Benchmark indices presented inthese materials may or may not hold substantially similar securities to those held by the fundsreferred to herein, and thus, little correlation may exist between the Funds’ historic return andthose such indices and there is no guarantee that any correlation which may have existed willcontinue to do so in the future.
This document is produced solely for the specified recipient. Furthermore by accepting thisinformation, you agree not to transmit, reproduce or make available to any other person all or anypart of this information.
top related