Flows, Market Snapshot and Axes…
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Some progress has been made, although no solution has been found so far. President Obama has been negotiating various compromise proposals that propose expenditure-driven budget cuts of as much as USD 3tn to USD 3.75tn.
We remain confident that parties will agree in the very near future so that the debt ceiling can be raised and any form of temporary default can be avoided. Most progress was made last week on #3 of our checklist: the EMU debt crisis.
The EU head of states agreed on a second Greek bailout program worth about EUR 109bn. The financial sector agreed to take a 21% haircut and contribute further with a range of bond swap alternatives. The EFSF was reformed to become a European version of the IMF with the capacity to contain a fire before the entire house is burning.
The ECB is walking a fine line as it intends to accept Greek government bonds rated default as collateral as long as those bonds are collateralized themselves with guarantees from the EMU member states. Financial markets celebrated the deal for about 24 hours.
The euro strengthened, equities rose, core yields jumped and periphery spreads were crushed (2-year Greek bond yields plummeted by 14 percentage points). Still, investors are not taken in by the rescue package. Greece’s debt burden will remain extremely high, implementation and participation risks remain, and the EFSF might need to be beefed up in order to credibly fulfill all its mandates.
The new rescue package will inevitably lead to a (temporary) default rating by the rating agencies, while statements from ISDA officials suggest that a credit event will in all likelihood be avoided. There was no news for #4 on our checklist (QE3 by the Fed) and mixed news from #5 (US company earnings). #6, which dealt with macro fundamentals, delivered mostly disappointments with larger-than-expected declines in the ZEW, the PMI and the Ifo indices.
The next few days investors will concentrate on whether Democrats and Republicans in the US can finally agree on a compromise. Market chatter suggests that the deadline to raise the debt ceiling might be shifted from 2 August to 10 August due to slightly higher tax revenues. Nevertheless, investors are nervous as evidenced by falling equity indices in early Monday trading.
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