Are We Heading For Another Banking Crisis?

(eToro Blog)  Yields on Spanish and Italian bonds exceeded six percent on Monday — a Euro era record — reflecting the added premium investors demand for the added risk. While yields for Greek, Portuguese and Irish bonds also made new record highs, yields on German Bunds began their second consecutive week of declines. The 10-year Bund dropped five basis points to yield 2.69% after trading as low as 2.62%, as investors shopped for quality amid the Eurozone’s worsening financial crisis.  

Many analysts think that the seven percent level on a nation’s government bond yields is the “point of no return” and was coincidentally the level where Greek, Portuguese and Irish bonds hit before the ECB/IMF/EU stepped in to provide bailout assistance. Italian 10-year bonds traded briefly at the 6.06 percent level while equivalent Spanish bond yields traded up to 6.33 percent on Monday.

To put things in perspective, Greek two-year government bonds yielded six percent in early April of 2010; by April 26th of 2010 their yield was 13.07 percent, more than doubling within two weeks. The yield on the same two year bonds in London on Monday was 33.07 percent shooting up 185 bps in the session while Ireland’s two year bond rose 179 bps to yield 23.12 percent and Portugal’s jumped 168 bps to yield 19.35 percent.

The results of the European Banking Authority’s stress tests for 91 European banks released last Friday showed that only eight banks were in trouble, five from Spain, two from Greece and one from Austria. Nevertheless, 16 other banks are in the “danger zone”. Stock markets dropped all over Europe on Monday after the release of the EBA’s results.

Because of the exposure most European banks have on Spanish and Italian debt, bank stocks led decliners in all of the European stock markets on Monday, with UK banks getting especially hard hit. Lloyds, Barclay’s and the Royal Bank of Scotland were the biggest casualties with Lloyd’s and Barclay’s declining by over seven percent while the RBS lost six percent or over £5.0B.

Two Spanish debt auctions take place this week, later today and on Thursday, which should give an indication of investor confidence for the EU summit. Nevertheless, unless a credible plan for dealing with the European financial crisis is agreed to on Thursday at the summit in Brussels, market confidence may continue deteriorating to the point of taking yields on Italian and Spanish bonds even higher and possibly triggering another European bank crisis.