Eurozone Sovereign Bailouts Likely To Stop At Portugal

Three of the heavily indebted 'PIGS' countries Greece, Ireland and Portugal have already received or requested bailouts from the European Union and International Monetary Fund, leaving only Spain holding on to solvency without external support.
The sequence of funding failures has triggered fears that Spain could suffer the same fate. Such an eventuality would pose a far greater threat for the Eurozone given that Spain's economy is almost twice the size of those of Greece, Ireland and Portugal combined.
Spain's gross external debt hit 1.76 billion at the end of 2010, according to the Bank of Spain. If the Eurozone solvency crisis is following a clear pattern with investors focusing on one country at a time Spain will come under greater scrutiny in the coming months.
"Spain's size, and the distribution and complexity of its various types of sovereign, quasi-sovereign, bank and corporate debt, creates political headaches for the EU far greater than those in the smaller economies," says Tamara Burnell, head of sovereign and financials credit analysis at M&G Investments.
But while pessimists point to problems in the country's real estate and savings bank sectors, as well as unemployment in excess of 20%, the consensus view is that the bailouts will stop at Portugal.
"A disaster moment for Spain is not likely in the near term," says Ashish Shah, senior vice-president of global credit at AllianceBernstein in New York. "Spain is in a much better position than Ireland, Portugal or Greece. But the country is clearly not out of the woods yet."
Spain's gross domestic product accounted for 11.56% of the Eurozone total in 2010, according to IMF figures, whereas Greece, Ireland and Portugal together accounted for just 6.06%.
"Growth, while weak, is improving and exports are okay, which will provide some offset to what will remain fairly low personal consumption in the short term," says Duncan Sankey, senior portfolio director and head of credit research at Cheyne Capital in London.
But investors acknowledge the country faces major financial and economic challenges. Among these, the most significant are unemployment 21.29% at the end of the first quarter, according to government figures real estate debt and unhealthy bank balance sheets. All of these problems will continue to attract attention.
"There is no question the banking system is undercapitalised and the government is trying to address that," says Shah. "The reality is the government is going to have to address it from the fiscal side, which means borrowing money and putting it in the banks. Spain will struggle to deliver the growth it needs to absorb the heavy social costs [of that process]. All this is happening as the European Central Bank is tightening rates, which is particularly bad for Spain because the mortgage market is largely a floating rate market."
Nevertheless, investors take some comfort in the relative openness Spain has shown in publishing debt figures in its banking and real estate sectors.
"Spain will not go the way of Greece, Ireland or Portugal," says Luke Spjic, head of European credit portfolio management at Pimco in London. "We know the debts are large but if the banks can be stabilised with equity and then fund themselves, it is very difficult to predict the Spanish banking system will disappear tomorrow. We know the size of the debt so what is the worst-case scenario when they go out to raise money? They might end up with an 80% debt-to-GDP ratio, which is a lot lower than the US."
In terms of bond market sentiment, however, there are undoubtedly risks that buyers may end up staying away from upcoming Spanish issuance, even though that risk may not present itself for a few months.
"It will take some time for the risk to materialise in Spain because the government is very transparent about what it needs to do and is showing a tremendous amount of political will in that direction," says Shah.
Nevertheless, the size of the Spanish economy relative to the other PIGS countries means it would be unwise to ignore the risk it poses to the Eurozone.
"At the moment you can still draw a distinction between Italy and Spain on the one hand and Greece, Ireland and Portugal on the other," says Sankey. "Does that mean Spain is immune from contagion? Absolutely not, although they are looking somewhat better. The size of the problem is so much bigger in Spain that, if it had to be addressed, it might actually hush the voices of some of the less enthusiastic elements in the European Union."
Yet for some investors, it is not just that worst-case scenarios are unlikely, or even that the EU will ensure they do not come to pass. Instead, Spain may even be worthy of increased allocations.
"There is a stock of people, be it Brits or Scandinavians or Germans, who will go and buy property in Spain," says Spjic. "There is a massive stock of houses to get through."
Spjic is also quick to emphasise the difference between the predicament Spain faces and that faced by Greece.
"The poorer peripheral countries have really tough debt dynamics," he says. "When Greece has to go back to the private market next year, it will be a real struggle. Who is going to lend it 30-40 billion? The public sector may step in again but then the risk builds it may not come back to market. With Spain you have got to paint a really nasty scenario for that to happen," he says.
But if the macro picture were to turn negative again across Europe, Spain will not be the only country to come under pressure from investors, argues Burnell at M&G.
"Let's not forget though that plenty of other large developed economies also share many of Spain's problems, so there seems to be a reluctance to admit or confront the issues in Spain - after all, looking in the mirror can be painful for those who still believe themselves to be in a far better position. So a solution for Spain probably has to involve a much wider admission of pain than most can contemplate right now," she says.