Why a Spanish Bailout Would Be Good for Stocks
As investors try and second guess the European Central Bank’s (ECB) next move, one investor tells CNBC that the best things for stocks and risk assets could very well be Spain asking for a bailout.
“The ball is now firmly in the Spanish court,” said Chris Wyllie, the chief investment officer at wealth manager Iveagh on Wednesday.
His point is that with the ECB (explain this) now making it clear it is willing to intervene in the euro zone bond market in some form, Spain asking for financial help could allow the central bank to ride to its rescue and take decisive action to lower Spanish borrowing costs.
“The big picture is that the ECB has now made it clear that it is prepared to intervene aggressively in bond markets to reduce interest rates, but only after the governments in question have the tapped the bailout funds and agreed to a fiscal plan,” said Wyllie.
“This would deliver a potent one-two punch, with primary issuance taken up by the bailout funds and the secondary market taken care of by the ECB,” he added.
The problem is that the government in Madrid does not want to lose face and go cap in hand to the European Union and International Monetary Fund (explain this) for cash, as it made clear in negotiations over funding for its banking industry earlier this year.
“Going for a bailout would involve a loss of political face, yet with funding costs so high, it strikes us that they have little choice. Ironically, one would prefer bond yields to stay high for now in order to force the Spanish government to confront reality,” said Wyllie.
The conditions being imposed by creditor nations and the ECB before assistance is forthcoming for those countries at the center of the euro zone debt crisis remain the key issue, according to HSBC.
“Unlimited intervention by the ECB in the bond markets would be the ultimate game-changer in the euro zone debt crisis. Not only would it drive spreads down, it would keep them down. But it will require European governments to fulfill their side of the bargain,” said Stephen Major, global head of fixed income research at HSBC, in a note. (Read More: Can Europe’s Central Bank Provide a ‘Game-Changer’?)
Access to European Stability Mechanism funds and help from the ECB will act as a major incentive to struggling euro zone nations in Major’s opinion, and he is questioning whether the central bank might force governments into action on austerity.
“Will the ECB be prepared to withdraw the carrot if politicians do not wield the stick? Gradual moves with strong conditions should provide the stick the creditor countries require, and combined with the ECB’s carrot allow evolution towards debt mutualization and common issuance,” Major said.
With so much at stake over the coming weeks Iveagh’s Wyllie believes the euro debt crisis could very well drive markets higher on news that would have been seen as a major negative not long ago given the amount of money on the sidelines.
“You can argue the toss over the state of sentiment, but we think it remains depressed relative to the amount of liquidity in the system, with investors still reluctant to take on risk. The equity risk premium offered compared to bonds remains attractive, and thus we are sticking with a medium risk level,” Wyllie said.