European Stress Tests: Could the Publicity Stunt Backfire?

The European sovereign debt crisis has come back to haunt the euro. In the beginning of the year, European debt problems drove the EUR/USD from 1.45 down to 1.1877. When the fears receded, the euro climbed back above 1.33. However now that the fears that have gripped the currency for most of the year has returned, the euro is once again under aggressive selling pressure.

Yesterday the Wall Street Journal broke the story and according to their report, the total exposure of banks varies widely depending upon the source of the information. For example, the stress tests showed that French banks only held EUR 6.6 billion worth of Spanish debt and EUR11.6 billion of Greek debt. However according to the Bank of International Settlements, their holdings of Spanish debt was EUR35 billion (5 times more than the amount reported in the stress tests) and their holdings of Greek debt was approximately EUR20 billion. Even the midyear results from individual banks showed different numbers than the stress tests.

Why the big difference? The report reveals that some banks excluded certain bonds while many reduced the sums to account for short positions. When the results of the tests were first released, economists screamed about their leniency and credibility, but investors quickly shrugged off those concerns and moved on. Unfortunately, the problems have now returned and if there is more investigation into the latest discrepancies, the original publicity stunt could backfire.

The Committee of European Supervisors released a statement today addressing the discrepancy between the Bank of International Settlements numbers and the data disclosed by banks during the stress tests. Unfortunately the statement provided little information outside of acknowledging that banks were asked to disclose gross exposures and were allowed to deduct offsetting short positions. They argue that the data compiled by the BIS used different reporting dates and methodologies which make a comparison between the 2 numbers “impossible.” If the statement was aimed at alleviating the market’s concerns, it failed to do the trick as the euro barely reacted to the press release.

The fate of the euro continues to hinges on how long the European debt problems remain in the headlines and unfortunately I do not think that they will go away anytime soon. Like a fungus that keeps on growing back, it will be a recurring topic in the financial markets for the next 12 months.

2010 eurusd forecast 2010 eurusd forecasts euro Kathy Lien

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