Banks given access to cheap money to lend to businesses and households

In this week’s bulletin:

  • Financial markets’ initial response to news that Greece has voted to stay in the euro is positive
  • Greek leader casts aside future doubt about its membership
  • The results of the Greek election have been well-received by EU leaders
  • Investors have also welcomed the news – fund manager Stuart Mitchell believes Europe is closer to finalising its blueprint for the future
  • Investors’ worries over Spain remain elevated, despite €100 billion bailout for its banking sector
  • Bank of England boosts UK growth prospects with surprise £140 billion lending and liquidity package
  • Banks given access to cheap money to lend to businesses and households
  • Wall Street optimism rises over likelihood of further stimulus by the US Federal Reserve.

 

Global markets welcome Greek election result

  • Financial markets’ initial response to news that Greece has voted to stay in the euro is positive
  • Greek leader casts aside future doubt about its membership

European markets rose in early trading after support for pro-bailout parties in Greece’s elections. New Democracy, which came top, has backed the two bailouts of Greece by the European Union (EU) and International Monetary Fund (IMF). There had been fears that if anti-bailout party Syriza had won, Greece could have been forced out of the euro and acted as a catalyst for contagion across the region. European markets were up marginally following strong gains in the Far East. Japan’s Nikkei 225 Index and South Korea’s Kospi both closed up 1.8%, while Australia’s ASX 200 added 1.9%.

“The Greek people voted today to stay on the European course and remain in the eurozone. There will be no more adventures. Greece’s place in Europe will not be put in doubt.”

Antonis Samaras, the leader of the New Democracy party

 

Collective sigh of relief

  • The results of the Greek election have been well-received by EU leaders
  • Investors have also welcomed the news – fund manager Stuart Mitchell believes Europe is closer to finalising its blueprint for the future

The elections in Greece were being watched closely not just by eurozone leaders but also investors across the globe. Greece has received two bailouts in the past two years: it was given an initial package worth €110 billion (£89 billion; $138 billion) in 2010, followed by another one last year worth a further €130 billion. However, the EU and IMF have attached tough austerity measures, including state spending cuts, as pre-conditions to those packages. There have been various demonstrations against those cuts in Greece and the Syriza party had said that it would renegotiate the conditions if it came to power. It had led to fears that, if eurozone leaders and Athens did not agree on the existing terms, Greece may be forced to leave the eurozone. There were concerns that such a move may spread contagion to other eurozone countries and result in turmoil in the global economy. Even though the crisis in Greece has not been solved, the result of the elections had made some investors optimistic that it may have bottomed out. Of course, time will tell whether the collation government holds during a prolonged period of austerity, even if it is successful in negotiating easier terms from other European leaders.

It is always important to keep a perspective in these matters and European equity manager Stuart Mitchell made the following points this morning. “The Greek results are positive and no doubt its new leaders will succeed in forming some form of government. But for us this is just part of the process towards a blueprint for Europe which ultimately will see Germany agreeing to the issue of eurobonds, thus seeing the sharing of debt and greater stability of the region going forward. So events are developing much as we expected and it does feel that the crisis is coming to a conclusion, albeit probably many months away.”

“It’s not that we are trying to be optimistic; it’s just how we continue to see things.”

Stuart Mitchell, European equities manager

 “From a corporate perspective, we are finding that the types of business we have invested in – luxury goods, high-end motors and the like – remain very confident, with Scandinavia booming and Germany and France continuing to do well. Admittedly there is weakness in Italy and Spain; but our businesses are global and less than 3% of their turnover comes from these areas. Earnings are expected to grow by 10% this year and we see no change for the second quarter with results likely to beat expectations. Share valuations remain low and, at grass-roots level, businesses remain buoyant. It’s not that we are trying to be optimistic; it’s just how we continue to see things.”

 

Spain in the spotlight

  • Investors’ worries over Spain remain elevated, despite €100 billion bailout for its banking sector

Whilst the outcome of this weekend’s election in Greece is undeniably good news, it is quite likely that investors may, after the initial feel-good factor, reflect further on what it means for the longer term. Last week was a good example of just how fickle and transient investors’ behaviour can be. Following the news that the EU would pump some €100 billion into Spain’s ailing banking sector, markets rallied strongly only for those gains to be lost by the afternoon. It became clear that the markets were not wholly convinced that even such a large sum would be sufficient to put the country’s banks back on a firm footing. Exacerbating matters was a decision by the ratings agency Moody’s to cut Spain’s credit rating to one notch above ‘junk’ last Wednesday. As a result, yields on Spanish government debt rose once more close to the 7% level which is seen as the threshold for a full sovereign bailout. Even though the yield fell back slightly later in the week, analysts fear that the country may have to pay even higher interest rates while raising money in the near future. So it was no surprise that tensions were running high in the run-up to Greece’s elections, with many investors nervously watching from the sidelines.

 

Bazooka for Britain’s banks

  • Bank of England boosts UK growth prospects with surprise £140 billion lending and liquidity package
  • Banks given access to cheap money to lend to businesses and households

Here at home, Britain’s struggling economy was thrown a lifeline by the Chancellor and Bank of England (BoE) Governor, Sir Mervyn King, when they offered an initial £100 billion to UK banks to boost lending and help the sector to protect itself against a worsening eurozone crisis. Sir Mervyn said that the authorities were responding to events that had “grown to cast a long shadow over our own economy”. Analysts see this as a volte face by the governor who has previously said that using QE was the best way to boost the economy. There are of course criteria for the banks to meet in order to qualify for the new ‘Funding for Lending Scheme’ which is intended to make it easier for them to issue lines of credit to households and businesses and so boost spending and growth. In terms of how the scheme will work, the BoE provides low-cost lending for up to four years for which banks provide loan collateral. The banks then use this cheap money to fund lending to homes and business.

The big question of course is whether it will work. Some argue that UK banks are not suffering from a shortage of liquidity; but rather a situation where the credit-worthy do not wish to borrow and those who do want to borrow are seen as insufficiently credit-worthy. Will borrowing costs fall? One would like to think that new loans would be cheaper as a result; but judging from the stock market’s reaction, which saw banking shares jump sharply last week, it might appear that investors believe banks will actually be able to increase their margins and boost profits. The other aspect is whether the numbers are large enough: the Funding for Lending Scheme coupled with the new 6-month lending programme – to ease liquidity – totals some £140 billion. However, it appears that in the small print the BoE is also going to give permission for banks to release part of the huge cash piles that it has ordered the banks to accrue over the last three years. This change in policy could, it is estimated, see a further £150 billion released for loans to companies and consumers. This means that the stimulus package could total some £300 billion or so, almost equivalent to the £325 billion the Bank has already pumped into the economy via its quantitative easing programme. Of course there is a lot of detail to be worked out and question marks remain over the mechanics of the schemes; but it certainly shows that UK policymakers are determined not to allow the UK’s recovery to be snuffed out because of the eurozone crisis.

 

Market eye

  • Wall Street optimism rises over likelihood of further stimulus by the US Federal Reserve

Away from Europe, global markets made positive progress last week despite eurozone headwinds, particularly in Asia where shares in Hong Kong climbed 4% on the week. On Wall Street there was some optimism about the possibility of the Federal Reserve unveiling further stimulus measures – possibly at its policy meeting this week. Recent US economic data has been disappointing after the better figures seen in the first quarter. Retail sales and jobless data last week provided further evidence that growth was slowing; whilst alongside this data, consumer prices pointed to a benign inflation backdrop. The rate of headline inflation actually fell below the Fed’s 2% target for the first time in 16 months, implying that this would allow the Fed some headroom to stimulate the economy. The markets have been trying for some while to second-guess Fed Chairman Ben Bernanke, believing that he will announce a major new policy expansion by late summer in the form of QE3, despite his recent non-committal comments to Congress.

Overall investors remained cautious, being happy to buy US Treasuries despite the yield on a ten-year bond dropping to 1.57%. This contrasted with German Bunds where yields ticked up as investors took the view that further eurozone problems would mean richer economies such as Germany bearing the brunt of the cost. Notwithstanding this, the euro managed a modest rise over the week to $1.26; although most investor interest focused on the yen, which is perceived as a safe currency haven in difficult times. So, by the end of the week most assets had firmed somewhat, as markets awaited the outcome of the Greek election. For private investors the strategy of asset class and geographic diversification, coupled with an ‘income for growth’ approach, continues to be the best way, in our view, to reduce volatility and create more certainty looking ahead.

Please leave a comment - we all like them