Evercore Pan Asset

Thursday brought political good news from Euroland, but worse news from the markets.

Frau Merkel got Parliament to approve Germany’s contribution to the delayed EFSF, carrying the measure comfortably on Coalition votes as well as with the support of the main opposition party. This followed hard on the heels of Finland also approving it, after making heavy weather of what security they would be offered for their loans.

Market participants had said to the media that if ratification of the loans was blocked or only got through by a narrow margin they would take a bearish view. In their current mood markets like firm political leadership. They want to see Frau Merkel in charge and leading her Parliament and the rest of the EU firmly into the bailout camp. For the time being they got what they wanted.

There remain troubles ahead. The German opposition said they might not vote in favour of any future bail out. Frau Merkel probably reassured MPs on her own side that the Euro 440 billion fund would not be expanded, and may have made soothing noises about ECB bond purchases and money printing. However, as she was doing this the press reported conversations to increase the size of the bailout funds from €440 billion €2 trillion, with a much more active role for the ECB than many Germans would feel comfortable experiencing.

Meanwhile Italy needs to get on with raising substantial sums to replace loans which are reaching maturity. Italy managed to borrow 7.7 billion Euros yesterday, but only at the new high rate of 5.86% for ten year money. The ECB seemed to be trying to keep Italian 10 year rates down to around 5%, through an extensive bond buying programme earlier this month. Now Italy has to test bond market resilience with new issues, the markets are saying clearly they want higher rates as an offset for the risk they now perceive to be in these instruments.

Whilst many in Euroland government will b e congratulating themselves on steering the EFSF through difficult times, to the point where it looks as if it will have legal backing, there remain big worries. Most market participants think Greek default has been delayed but not cancelled. They think the European banks need a lot more capital to withstand possible bond losses. They expect the markets to test the resolve of Euroland not just over Greece and Portugal but also over Italy. The authorities would be wise to speed up their €2 trillion plan and spell out where it comes from, when it would be used, and how they get democratic approval for it.

Until they do we remain negative about Euroland assets, and cautious about markets. Bank liquidity remains poor, a downturn in growth will happen into next year, and there is still plenty to worry about.