The European Central Bank: Facing the Uncertainty

The performance of the foreign exchange market precisely reflects the current state of the Eurozone that can be summarized in one word: uncertainty. During many months there was a talk about the credit crisis, liquidity problems, risks default, Greece, Spain and spread and the result is that it got to the point that it cannot be made any better.

p-euroExcluding right away the judgment of rating agencies that took effect only in a very short period of speculation activating sessions, what is this happening in Europe seems a mystery, and is the confirmation of this that could be seen these days. On February 29th there will be announced the second refinancing operation since for three years the ECB pushes the experts Exane BNP Paribas to make a point on the subject. Through there is the Long-Term Refinancing Operation which increases liquidity in the markets, the most important purpose of the ECB was to avoid a systemic banking crisis in Europe, the main cause of the peripheral output of a country by the Economic and Monetary Union.

The overload liquidity in the banking sector may in fact be likened to a kind of security measure because the banks do not have to worry about a possible liquidity crisis that could influence the different players. According to analysts at the Exane, the performance of the Euro OverNight Index Average (Eonia) spreads and increases in deposits at the ECB are the verification that this objective has been achieved. It should, however, be revealed that while a boost in the money by the central bank had a positive effect on liquidity resulting in a surplus that was obvious in the stores, now the mechanism seems to be changed. In the sense that the current cash gather makes the environment easier resulting in a decline in the budget of the ECB and allowing the body to decrease its support to that segment.

In addition to this, the ECB hoped to attain through the Long-Term Refinancing Operation other secondary objectives, which, however, come out to be more rhetorical than anything else. It refers, in particular, to the effects on sovereign bond yields in non-central countries, the motivation to provide credit to the real economy and the achievement of the need for recapitalization. For example, some analysts from French banks consider that not all desired objectives have been achieved by the ECB. The simple presence of more liquidity in the market, however, was positive. In that regard, there should be paid attention to the spreads of peripheral countries that have reduced resulting of the yield curve, even the spread of the banking sector decreased but did not seem to have had an impact on the real economy.

There it comes to the question of uncertainty. In November of 2011, analysts of Exane reported that the liquidity problems in Europe were mainly due to the constant requirement for a way out strategy by the ECB. The situation has now changed and the ECB has recognized its role as the lender of last resort. However, it is unlikely that it wants to involve in the European banking industry for a non-defined period: three years would be sufficient to record a normalization and regularization of the field. Given that the support will come to an end in three years, Exane analysts consider it essential to stay on that risk. If there was a taught that on January 29, 2015 will expire 489 billion euro from the first that Long-Term Refinancing Operation (LTRO), there could be realized that it cannot restore funding through the senior unsecured bonds, and banks have been able to meet deadlines of 2012 and 2013 through LTRO.

Therefore, the attitude of the ECB has allowed European banks to be less driven by the timing and more responsive to price, but these participants cannot escape from reality. Any kind of return to the senior unsecured market is, then, the next step for Exane to re-establish a self-sufficient business model that can cover the cost of equity in different economic cycles and the long term. This step is the logical path to the exit strategy of the ECB. If this situation were to be taking source would generate a balanced supply and demand in a way that the debtors will become more aware and reasonable about the new conditions of funding and investors would need to put more cash in circulation. It seems questionable whether the cost of supporting new equilibrium will be determined by the debtors. With respect to the data of the European Central Bank Lending Survey it indicates that the competitive environment is approving to the banks.

According to the experts from Exane the liquidity crisis has ended and the time is now ready to deal with problems related to funding, capital and profitability, according to which the second operation of Long-Term Refinancing Operation, which should be around to 350-450 billion, is configured as an opportunity for smaller banks that were not able to participate at LTRO of December rather than for large banks. This group of actors who have, in fact, already requested sums for a sufficient amount of the needs of short-term, are characterized by better use of collateral. Therefore, there can be seen that a revised rate of the banking sector is necessary is the encouraging signal observed on the funding in January to continue to register. However, there should be highlighted the risk that some investors may have done right choices for the wrong reasons that have exposed the banking sector because they believed that the Long-Term Refinancing Operation had changed the existing framework rather than the unassuming progress made in solving problems bottom.

The conclusion of the Exane BNP Paribas was that those investors may be disappointed by the short-term bounce that may occur after the Long-Term Refinancing Operation activities scheduled for February, and that a return will depend on the amounts that are supposed to be borrowed”. Also there was explained the EUR/USD trend, the world’s largest currency issue caused tensions in Europe from the fact that not only they are unable to make predictions for the immediate future, but mostly no one can comprehend which is the real situation in the Eurozone. At this time, large investors are therefore the connection with the sources of capital and they allow time to calm down the general framework to understand where they are actually guided. In this situation the stocks also suffer the consequences and the trading of medium term time fall to next month probably. For despite the intraday movements are good opportunities for trading with a good risk or reward is very little and takes away the unpredictability traders. In the nearest future there might be stabilized the situation and there could be followed the key developments closely to see when it is best for many of them to return on the market.

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