From Win Thin, Senior Currency Strategist at Brown Brothers Harriman.
Spanish media is quoting Finance Minister Salgado as saying all Spanish banks had passed the stress tests. Spokesperson later tried to walk these comments back, saying they were taken out of context. Really? Newswire service has translated the piece, with the following bullet points: 1) all Spanish banks have passed the stress test, (2) all of Spain’s banks will be tested unlike other EU countries, and (3) the efforts to be transparent should give reason for confidence in the banking sector. Context seems awfully clear to us. Spanish bonds are outperforming today, with 10-year yields down 7 bp on the day. With Germany yields down only 1 bp, Spain spread has tightened. While peripheral spreads have stabilized this past week, they remain elevated and are still signaling significant default risk for many of these countries.
Euro is bouncing off the day’s lows vs. the dollar around 1.2840 and move back above 1.29. While this news may at first blush appear to be euro-positive, we will repeat our comment from yesterday, that “we have to expect some failures in the stress tests, otherwise the markets will simply view the tests as a sham.” Spanish cajas are widely seen as the weak link in the country’s financial system, with officials trying to consolidate the weaker ones into the stronger ones. We expect more leaks between now and Friday, but as things stand, we think markets are prepared to see stress test results that are overall positive for the European banking sector, made under assumptions that are not too rigorous. For now, market is unwilling to push the euro aggressively either way ahead of Friday, and seems to have carved out a near-term trading range around 1.27-1.30 that’s held since July 14.