Wednesday, May 22, 2013

Portugal Plunders State Pension Fund?

John Geddie of the International Financing Review reports, Portugal plunders pension fund to tackle debt cliff:
The Portuguese government plans to tap nearly all of its state-owned pension fund to ease it over the hump of a hefty €27.5bn of financing needs over the next two years, according to domestic news reports.

Portugal’s social security minister Pedro Mota Soares is evaluating whether to invest up to 90% of the €10bn Social Security Financial Stabilization Fund (FEFSS) in Portuguese government debt, according to Economico on Tuesday.

The fund had €5.5bn invested in Portuguese public debt at the middle of last year, according to earlier reports in the same newspaper.

The new measures would free up a further €3.5bn, meaning the fund would own around 7.5% of all Portugal’s outstanding government debt, deemed sub-investment grade by all the major ratings agencies and viewed as one of the riskiest assets in eurozone government bond markets by investors.

In Spain, a country hanging to its investment-grade status by a thread, at least 90% of its €65bn social security fund has already been invested into Spanish government debt.

Under FEFSS’s present mandate, the fund has to invest at least 50% in Portuguese government debt, and can also invest up to 40% in investment grade debt.

The Ministry of Finance declined to comment.
Challenges ahead

Portugal has around €120bn in total outstanding debt, according to Reuters data, split between bonds and T-Bills. FEFSS participates in both these markets, said a government official.

“They FEFSS have always bought government debt, but that stepped up a bit at the end of 2010 under the previous government,” said a government official, adding that he would not prefer not to comment on plans to change the fund’s mandate.

Portugal issued its first new benchmark bond since it was bailed out earlier this month, a €3bn 10-year deal which allowed it to round off its funding needs for 2013, and start to pre-fund for next year.

In 2014, Portugal has around €9bn of additional financing needs not covered by state financing sources that will need to be raised in the capital markets. In 2015, this steps up dramatically to €18.5bn, according to an investor presentation compiled by Portugal’s debt agency IGCP.

Portuguese bonds have rallied in recent months, bolstered by investors’ appetite for yield in the wake of the ECB’s rate cut last month and an as-yet untested bond-buying promise from the ECB, which has removed so-called tail risk from eurozone government bond markets.

Despite this tightening bias, however, the country’s economic fundamentals remain on shaky ground. Portugal’s debt-to-GDP ratio is set to hit a peak of 124% next year, according to government estimates, the third highest in the eurozone behind only Italy and another programme country Greece.

The yields on its 10-year bonds – which currently stand at around 5.2% - are also the third highest in the eurozone, behind only those of Slovenia and Greece.

Ireland – the third country to receive an EU/IMF bailout like Portugal - has 10-year yields of 3.4%, while Spain trades at around 4.2%.

German 10-year bonds – a haven for investors – yield around 1.4%.

In order to tackle the funding cliff ahead and capitalise on the recent renaissance in its debt, Portugal plans to return to regular auctions in the coming months.

It is also considering a debt swap of certain bonds approaching maturity in the next few months, something it successfully executed last year and offset around €3bn of redemptions, said a source close to discussions.

“We want to get to the end of the year in a comfortable position, so we can start to pre-fund for 2015 because that’s really the challenge,” said the source.
The use of state pension funds to ease financing needs is controversial but some of the weakest members in the eurozone simply don't have any other option. Struggling with huge debt, they are resorting to tapping the state's pension to address their debt woes, hoping growth will finally kick in and markets will remain favorable so they they can return to regular auctions in the coming months.

Europe remains the biggest obstacle to a strong global recovery.  The focus on austerity in periphery economies has led to a deflationary contraction which risks submerging eurozone into a protracted period of economic stagnation or worse still, a drawn out depression which could easily spread throughout the world.

The FT reports Portugal’s top bankers have called on Europe’s leaders to stop “playing with fire” and moderate their stance towards the eurozone periphery, or risk instilling alarm among bank depositors in future. They argue that Europe's handling of the Cyprus crisis has increased nervousness across the eurozone to dangerous levels.

With Portugal's unemployment rate hitting 18%, it's no wonder most Portuguese are rejecting the latest draconian measures to shore up their economy. Austerity "too fast and too deep' has left Portugal's economy staggering and the political backlash is understandable.

In my opinion, the ECB will have little choice but to follow the Fed and Bank of Japan into massive quantitative easing. It's not a matter of if but when. It's worth noting that European shares, including those of the periphery economies, are rallying, tracking their U.S. counterparts:
European stock markets extended gains in choppy trade on Monday, with car makers in the driver’s seat after a broker upgrade, while the broader sentiment tracked the U.S. higher.

The U.K.’s FTSE 100 jumped to the highest close since September 2000.

Volume was low as several markets across mainland Europe was closed for Whit Monday.

The Stoxx Europe 600 index rose 0.3% to 309.77, closing at the highest level since June 2008.

Last week, the index closed with a fourth straight week of gains, boosted by aggressive easing measures from central banks, which offset worries about growth in the euro zone. Lackluster growth data from the currency bloc actually supported the upbeat sentiment last week, as it raised speculations the European Central Bank could cut rates further.

“We’re seeing a bit of a hangover from the mood we had last week, but it’s still very much the same sentiment,” said Victoria Clarke, economist at Investec Securities. “There is further optimism about the months ahead and we’re getting over worries about a soft patch for Q2.”

“There is a lot of good news priced in at the moment, and if we see disappointing data from China or the U.S. it could trigger a move downward,” she added.

According to analysts at Morgan Stanley, however, macro data will start to improve going forward, which should ensure a continuation of the rally in European equities.

Later in the week, durable-goods orders and existing home sales are on tap in the U.S., while the preliminary Chinese manufacturing purchasing managers’ index is out on Thursday.

“Possibly the German Ifo index on Friday will also be one of the main events, because it’ll give us an idea if another rate cut from the ECB is on the table. If we see a big drop, it could open the door for a discussion on further rate cuts at the meeting next month,” Clarke said.
I simply can't understand why the ECB won't continue cutting rates and taking a more aggressive stance to combat the ravages of fiscal austerity. For now, global liquidity is very strong and investors in search of yield, including Japanese pensions, are helping drive yields on European sovereign debt to their lowest level in years and European junk bond yields to record lows. This is adding to fears of a global bond bubble but it's also bolstering  the corporate and financial sector, which will help spur economic growth.

But monetary policy and the global liquidity tsunami will not suffice to address deep structural problems plaguing labor markets in eurozone's periphery and core economies. Below, Bloomberg Europe Editor David Tweed reports from a conference in Madrid, Spain on finding solutions to the growth of youth unemployment in Europe. He speaks on Bloomberg Television's "The Pulse."

And Bloomberg's Niki O'Callaghan reports on Europe's creeping comeback, discussing the surge in Portugal's exports is signalling an emerging recovery.

I remain cautiously optimistic on Europe but worry that the recovery is fragile and can easily come to a halt if policymakers don't tackle growth in a more forceful way. Unless growth figures into the equation, plundering state pension funds will do little to address the ongoing debt crisis plaguing eurozone's periphery economies.