European policymakers’ announcement of a €750 billion (US$971 billion) bailout package to stop Greece’s sovereign debt crisis from spreading should bolster the performance of Asia’s currencies and markets over the coming week, but analysts remain wary of the longer-term volatility.
The loan package was announced by European ministers and the International Monetary Fund (IMF) yesterday (May 9). It consists of a special purpose vehicle which European states would guarantee up to €440 billion on a pro rate basis, plus a European instrument worth €60 billion and an IMF contribution of €250 billion.
The money will be offered to euro zone countries facing financial instability to help them defend themselves from speculators.
The European Central Bank also said that it would intervene in government bond markets, while the US Federal Reserve would reactive its currency swap lines to central banks in Europe, the UK and Switzerland.
Stocks in Asia reacted positively to the news. The MSCI Asia Pacific Index gained more than 1% today, its first increase in six days. The beleaguered euro also managed to add more than 1.4% to creep up to just above US$1.29.
Additionally Asian currencies rose broadly this morning. The Korean won for example rose to W1,134 against the greenback, a 2.5% gain from W1,105 seen on April 30, the low of that week.
“I characterise it as ‘shock and awe’. It’s pretty huge in terms of the support measures and its impact shouldn’t be underestimated,” said Mitul Kotecha, head of global FX strategy at Crédit Agricole in Hong Kong.
“It will go a long way in easing the tensions in the money markets for sure. The bailout is also a significant size, which will mean that concerns about default risk and debt restructuring will ease for European countries.”
Other observers also expect markets to recoup losses in the short-term, as the bailout announcement gives investors confidence to exit safe-haven assets and begin buying riskier assets again.
“Initial market reaction to the package was positive, with a partial reversal of last week’s moves and rebound in risk appetite,” said Dariusz Kowalczyk, chief investment strategist at SJS Group in Hong Kong. “We see a recovery in global equity markets this week after the recent falls.”
But while the package appears to have reined in immediate market volatility, Asia market observers remain wary of future uncertainty.
“The tortuous way in which the package was put together undermined the euro’s credibility as a reserve currency,” Kowalczyk said. “Much of the money requires national approval, which is not guaranteed, while conditions attached to loans will require fiscal tightening, which may push borrowing nations into prolonged recessions and trigger social unrest, jeopardising the package.”
Credit Agricole’s Kotecha agreed that concerns remain in the medium term.
“Although Asia doesn’t have the external debt issues that Europe does, you can’t ignore the external factors,” he said, adding that “investors will look for some stronger measures in terms of a real resolution to fiscal problems in Europe and structural reforms being carried out”.
Analysts at the Royal Bank of Scotland also warn that it is still too early for investors to switch back to buying mode.
“[It’s] not yet oversold or time to buy,” said Dylan Cheang and Emil Wolter, equity analysts at RBS in a research note. “The systematic nature of the current financial crisis in Europe is expected to weigh on markets globally, Asia included. Equities will get sold down in the medium term regardless of fundamentals.”
RBS maintains overweight ratings on technology, telecommunications and utilities stocks while it is underweight financials, materials and healthcare shares.
Crédit Agricole meanwhile suggests that foreign exchange investors with a conservative view should look at the Singapore dollar and Thai baht, which have been resilient to an increase in risk aversion. More bullish investors looking to benefit from a sustained improvement in risk appetite might want to look at the won and the Indonesian rupiah, said Kotecha.