Conclusion: European LIBOR is signaling that the European banks stress tests to be released this Friday may have some negative surprises.
While we have transitioned our short eyes to the U.S. dollar and the U.S. markets, European liquidity issues remain an important topic in global risk managment. Below we have highlighted a chart of three month Euro LIBOR, which is the rate at which European banks will lend to each other in Euros. Most market participants view it as a measure of fear and counter party risk between European banks, and rightfully so.
As we can see in the chart below, despite all the rhetoric from government officials about banks passing stress tests and the such, the banks themselves are voting. And with three month Euro LIBOR up over 30% in the last three months, and projecting upwards and to the right, the statement is fairly obvious. The credit worthiness of European banks is being question by their very own peer group. That’s not good for liquidity in the Eurozone.
A few weeks ago we highlighted the allocation by banks to the ECB deposit facility as it was reaching record levels. Our point, then, was that rather than lending to other banks overnight, many European banks had opted to store Euros with the ECB. That facility has fallen from its peak of $384 billion to $58 billion Euro.
Typically this decline would be perceived as positive in terms of liquidity within the system, but taken in conjunction with intra bank lending rates increasing it actually suggests just the opposite. In combination, there is less money in the intra bank system and it is being lent at a higher rate. So less money, and a higher cost.
I asked our Financials Sector Josh Steiner if there were any financials specific information that we should be thinking about when considering the above data points. His response was: “It all goes back to the sovereign debt. Euribor rising is because banks are nervous, and if banks are nervous it’s because of counterparty risk which itself is a derivative of sovereign risk. All interconnected.”
In the mining industry fire in the hole is yelled out prior to an explosion in a confined space. Even though Europe isn’t a confined space, Hedgeye is officially yelling, “Fire In The Hole”, ahead of the results of the stress tests of European banks to be released Friday.
Daryl G. Jones