E Markets: Contagion

The summer ended last night. Fear of economic war, contagion from EM, populist politics breaking the EUR – all that mixed with GDP reports from Japan and UK but we aren’t close to done with US CPI ahead begging the risk for more Fed hikes. 

  1. Russia retaliation. Russian PM Medvedev said that Moscow saw the new US sanctions as economic war and that the country would respond economically,politically or by other means if needed.
  2. Turkey Contagion. The ECB is concerned about Turkey exposure at EU banks.This set the tone for the European morning with TRY trading to 6.30.
  3. Italian Budget. The EU/Italy fight over budget underway with DiMaio vowing to use tough tactics.

These stories mattered more than Japan GDP and UK GDP beating expectations. We are in a crisis mode market where CHF is bid, USD is bid against EM and bonds are bid – yields lower – as equities move into a sea of red. Notable exception was China where rates squeezed higher in 7-day to 2Y and where equities were flat while the CNY held steady. This maybe more by design and likely can’t hold given the bigger moves in other G10 currencies. The USD has broken out of its previous highs and unless we see some action from Trump tweeting about the USD being too strong, we will have the USD even higher after the US CPI today. Markets should be on watch for the US intervention risk as it now maybe something Trump can deliver to allies to soothe the troubled waters of markets.Watching the USD index today is key with 96.10-45 next but the big picture suggests we have lots of room for higher.

Question for the Day: How big is the Turkey exposure in Europe? There have been lots of headlines this morning but not a lot of data on the Turkey exposure to EU bonds. Credit rating agencies flagged this risk in July with Fitch and Moody’s cutting Turkey. Moody’s forecasts problem loans at Turkish banks will increase to more than 4 percent of loans over the next 12-18 months, off a low of 2.9 percent in May. Turkey made a lot of money for EU banks with big loan growth and high net interest margins. The ABN AMRO report highlighted BBVA, ING and BNP but noted overall EU exposures of $225bn. The FT article this morning drove more speculation and highlighted UniCredit as well. 

According to cross-border banking statistics from the Bank for International Settlements, local lenders, including foreign-owned subsidiaries, have dollar claims worth $148bn, up from $36bn in 2006 and euro claims worth $110bn. Spanish banks are owed $83.3bn by Turkish borrowers, French banks are owed $38.4bn and Italian lenders $17bn in a mix of local and foreign currencies. Banks’ Turkish subsidiaries tend to lend in local currency.

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