At a press briefing at its London headquarters, Schroders European economist Azad Zangana said the European Financial Stability Facility (EFSF) was too small. The total amount of debt that needs to be refinanced by Italy, Spain, Belgium, Greece, Portugal and Ireland between now and 2018 is €2.9trn, he pointed out – and that does not include any new funding, let alone bank bailouts. "The road we are on is heading to default or restructuring for Greece and possibly Portugal," he said.
Zangana noted that while spreads on peripheral bonds are rising, it is "encouraging" to see de-coupling from Italian and Spanish bonds. His colleague Rory Bateman, head of European equities, observed that Spain's household, government and bank debt was "no worse" than the picture across the eurozone or the US.
While Spain's banks leave it more vulnerable to a global downturn should that happen, they are not seen as a great risk in themselves. Bateman said: "Portugal is a problem, and I won't deny that. But the markets are telling us something here: equities in Europe have been performing well, the bond markets are de-coupling Spain and Italy from the rest of the periphery. The markets don't expect a cataclysmic breakdown of the euro area."
European equities are cheap relative to both emerging markets and the US because they are pricing in the risks associated with the peripheral eurozone countries, he observed. But those countries only contribute 12% of Europe's GDP and 7% of Europe's equity market capitalisation."Worrying about peripheral Europe is overshadowing what is a great opportunity in some core European companies right now," Bateman said. "We still expect continued momentum for Europe as a whole, with GDP growth beating forecasts. The fiscal issues in the periphery are not sufficient to detract from our positive outlook for European equities overall."
Zangana conceded there was a risk of rising bond yields causing problems for the peripherals – indeed, that is part of the problem Portugal has been experiencing recently. "That's why the ECB has been so concerned to have the details of the Stability Mechanism resolved, so that it can begin safely to raise rates," he said. "It will be interesting to see if the ECB does carry out its plan for rate rises, given the progress on that from last week."
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