Affection for risk returning, suggests HSBC’s Philip Poole

Philip Poole, global head of Macro & Investment Strategy, HSBC Global Asset Management, sees a return of risk appetite that will switch investors away from safehavens such as non-euro currencies, US treasuries and UK gilts.

The eurozone crisis has been dogging markets for two years now and, for most of this period, politicians’ efforts to contain it have been half-hearted at best.

Moreover, the experience of debt work outs, including in emerging markets during the 1990s and Japan over a period of getting on for 20 years, is that they take a long time and rarely end up with a sustainable solution at the first cut. There is still no reason to suppose that the eurozone debt crisis will be different and certainly we continue to believe that solving it will take years, not months. We continue to believe that a break-up of the eurozone is an unlikely event. But also that there are no silver bullets and it is more likely that a ‘solution’ arrives as a series of half measures that eventually turn sentiment around. In our view, the pieces of a solution are being put in place and if progress continues the risk of additional waves of contagion will be replaced by the long, hard slog of implementation of economic plans and reforms. While it may be tempting fate, if this progress continues, we believe we are probably over the most dangerous phase of this crisis.

Via the back door

The announcement of the Long-term Refinancing Operation (LTRO) liquidity measures by the ECB last December was a turning point. At the time the markets underestimated the power of this policy, having preferred direct purchases of government bonds in the classic QE tradition of the Fed or the Bank of England. But the ECB’s policy has re-liquefied the banks, passing relatively illiquid assets to the ECB as ‘collateral’ in exchange for cheap long-term funding. In one fell swoop this policy has taken away much of the concern over the risk of a credit crunch that had been building into the likely next leg of the crisis. Central banks can really only buy time – and that is what the ECB is doing – but this move was key in reducing contagion risk. There has been a related benefit. The liquidity injections have in turn allowed banks to buy own sovereign debt – for example, Italian banks buying Italian government debt – effectively bringing in QE via the back door. This is helping to ease the debt roll over burden and smooth over the first half debt sovereign repayment hump, simultaneously bringing yields down to more sustainable levels. For example, the yield on 10-year Italian debt has now fallen to 4.9% from a crisis high of 7.5%.

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