Italy, Spain face short-term pressure after investor love-in

Reuters

By Toni Vorobyova and Emelia Sithole-Matarise

LONDON (Reuters) - Investors' love affair with Italy and Spain could hit a rocky patch in coming weeks, with signs that funds are turning cautious as stock and bond valuations hit multi-year highs and speculative players position themselves for a sell-off.

Confidence in the euro zone's third and fourth largest economies respectively has grown since mid-2012, when the European Central Bank pledged to stand by the euro.

But with recovery in both countries, which have been at the forefront of the euro zone debt crisis, and in their companies' earnings seen as distant, some in markets say asset prices have risen too far and too fast.

Madrid's benchmark IBEX (MCE:^IBEX) index has gained 67 percent since July 2012, pushing the premium that investors are willing to pay for Spanish stocks rather than the Euro STOXX 50 euro zone blue-chip index to five-year highs, according to Thomson Reuters DataStream. http://link.reuters.com/xeb83v

Gains on Milan's FTSE MIB (FSI:^FTSEMIB) have been tempered by bouts of political uncertainty in Italy, but the index is still up 55 percent in the period. Italy's discount to the broad euro zone when comparing share prices to earnings expectations over the coming year (P/E) has been largely eliminated.

The premiums investors demand to hold Italian and Spanish debt rather than German bonds have more than halved from the peaks hit in mid-2012 as the ECB's pledge to buy debt of struggling countries took the heat out of the debt crisis.

"It has moved a very long way, given that there are still some risks," said Karen Olney, strategist at UBS. "It is going to be vulnerable to being disrupted with any worrying news ... we still have a bit of a crisis working through."

NET OUTFLOWS

There are clear signs of how investors are turning more cautious. Spanish and Italian equity funds saw net outflows in August, even as pan-European funds attracted cash - the first such contrast in nearly two years, according to Morningstar.

At the same time, short sellers, who sell assets they do not own in the hope of being able to buy them back more cheaply at a later date, appear to be placing increasingly negative bets on both the Spanish and the Italian indexes.

Since the start of September, borrowing has risen 10 percent on the IBEX and 24 percent on the FTSE MIB, compared to a 16 percent fall on the German DAX (GER:^DAX), according to stock lending data from Sungard's Astec Analytics.

"Borrowing is the pre-requisite for short selling, and so we would see these numbers as suggesting there has been a build-up of short positions," said Karl Loomes, an analyst at Sungard.

The imminent company earnings season may be a reason for caution. Top analysts have cut their third quarter earnings expectations for Spain by 11.2 percent and Italy by 5.8 percent, compared with a 2.9 percent reduction for Europe as a whole, according to StarMine Smart Estimates.

In the bond market, while Italy and Spain are still finding solid demand at debt sales, allowing both almost to meet their 2013 borrowing needs, the momentum that has driven yields sharply lower may be flagging.

DEBT PREMIUMS

Italian and Spanish debt premiums over German Bunds have struggled to break below the 230 basis point mark that would take them back to early 2011 lows while 10-year yields have rebounded off 2010 lows hit in May.

"Our fair value is around here," said Harvinder Sian, a rate strategist at RBS. "To be much more constructive you'd have to see a lot more fundamental change."

"By and large we still believe in the fact that we are still in a low rates world and over time things could compress. It's feasible that with a bit more foreign demand these bonds and valuations can be pushed down to the 200 (basis point) mark (premium over Bunds)."

Technical charts also pointed to the chance of a near-term pullback in stocks, with both the IBEX and the FTSE MIB in overbought territory on the relative strength indicator.

"A pullback is likely as they are overbought but the main driver remains the long term reversal pattern (August 2011 - September 2013) that indicates a shift of opinion: the market no longer thinks that Spain and Italy are the black sheep," said 3rd Wave Consult chartist David Furcajg.

Looking further out, prospects for the European periphery start to brighten, with SmartEstimates suggesting the pace of Italian earnings growth will outpace that of the broader Europe as soon as 2014, and Spain will follow the year after.

"In terms of earnings growth it's true that these two countries will have a very big earnings recovery in 2014 and much stronger than other European countries, but it will take some time for P/Es to become normalised because it's a long way for profits to return to historical levels," said Pierre-Yves Gauthier, founding partner of equity research firm Alphavalue.

"I would think that the earnings potential is such that we could see another 20-25 percent gain in the next six months to a year on Spain, and 15-20 percent in Italy."

(Graphic by Toni Vorobyova; Editing by Nigel Stephenson and Giles Elgood)

Rates

View Comments (0)

Recommended for You

  • Tycoon buys 30 Rolls-Royces for Macau hotel

    A Hong Kong tycoon has placed the biggest ever order for Rolls-Royce cars, agreeing to buy 30 Phantoms to chauffeur guests at a luxury resort he's building in the global gambling capital of Macau. Stephen Hung's $20 million purchase surpasses the 14 Phantoms bought by Hong Kong's Peninsula Hotel in…

    Associated Press
  • 1 Tip To Lose Belly Fat

    It's Hollywood's Hottest Diet And Gets Rid Of Stubborn Fat Areas Like Nothing Else.

    AdChoicesagoodcooksSponsored
  • Before You Buy Alibaba, Check Out 4 Top China Stocks

    Before You Buy Alibaba, Check Out 4 Top China Stocks While investors gear up for Alibaba Group 's (BABA) hotly anticipated initial public offering, don't forget about other Chinese stocks that are worth keeping an eye on. Today's Young Guns Screen of

    Investor's Business Daily
  • Only 4 states will see cuts to food stamps

    Cuts to the nation's food stamp program enacted this year are only affecting four states, far from the sweeping overhaul that Republicans had pushed, an Associated Press review has found. As a result, it's unclear whether the law will realize the estimated $8.6 billion in savings over 10 years that…

    Associated Press
  • "The Retiree Next Door": How successful retirees stretch their savings

    "The Retiree Next Door": How successful retirees stretch their savingsBy the time she hit her late 40s, Toni Eugenia wasn’t sure she would ever be able to retire. Eugenia, 56, a pharmacy technician who lived in Houston, was nearly $200,000 in debt and

    Yahoo Finance56 mins ago
  • SHOE COMPANY: Our CEO Just Disappeared And Most Of The Money Is Gone

    "and like that: he's gone." This is an actual headline from a company press release: "CEO and COO disappeared, most of the company's cash missing." (Via FastFT) In a statement, German-based shoe company Ultrasonic said its CFO,  Chi Kwong Clifford Chan, has been unable to reach the company's CEO,…

    Business Insider
  • Apple to unveil new iPads, operating system on Oct. 21 : report

    The company plans to unveil the sixth generation of its iPad and the third edition of the iPad mini, as well as its operating system OS X Yosemite, which has undergone a complete visual overhaul, the Internet news website said. Trudy Muller, a spokeswoman for Apple, declined to comment. The iPad is…

    Reuters
  • Play

    Citi, Bank of America Offer Discounted Mortgages

    Citigroup and Bank of America will offer mortgages at discounted interest rates to help borrowers with low incomes or subprime credit. AnnaMaria Andriotis joins MoneyBeat. Photo: Getty.

    WSJ Live
  • Best Womens Wrinkle Creams 2014

    Mom reveals simple wrinkle solution that has researchers very excited. Try this free solution today to look and feel years younger.

    AdChoicesBellaLabs.comSponsored
  • Margaritaville casino owners seek bankruptcy

    The owner of Biloxi's Margaritaville casino has filed for Chapter 11 bankruptcy protection Tuesday, only hours before a hearing where the landlord aimed to seize the property. The filing by MVB Holding LLC in U.S. Don Dornan, a lawyer for landlord Clay Point LLC, said the company had planned to ask…

    Associated Press
  • Here's What Mark Cuban Wishes He Knew About Money In His 20s

    Cuban is the owner of the Dallas Mavericks basketball team. Billionaire investor and entrepreneur Mark Cuban is generous with his advice. When we asked him what he wishes he'd known about money in his 20s, he said:

    Business Insider
  • Embraer to sell 50 E-175 jets to Republic in $2.1 billion deal

    Brazil's Embraer SA, the world's third largest commercial planemaker, said on Wednesday it booked a firm order from U.S. The deal, which will be included in Embraer's order book for the third quarter, is valued at $2.1 billion, the planemaker said in a securities filing. The planes will be operated…

    Reuters
  • Gold loses luster on Fed; Barclays cuts forecast

    Barclays cuts gold forecasts, sees increasingly bearish backdrop Bloomberg MA MB MC MD ME SAN FRANCISCO (MarketWatch) — Gold prices dipped Wednesday on concerns about a stronger dollar ahead of the Federal Reserve policy statement and in response to Barclays lowering its gold forecast.

    MarketWatch
  • Billionaire Investor Says Chinese People Work Harder And Western Companies Could Face Deep Trouble After Alibaba IPO

    Michael Moritz, the chairman of VC firm Sequoia Capital, is a huge fan of Chinese internet companies and reiterated his enthusiasm for the Chinese market in an interview with The Wall Street Journal Wednesday. The billionaire investor described the Alibaba IPO as a “major landmark event” that is as…

    Business Insider
  • Fed renews zero rate pledge, but hints at steeper rate hike path

    The Federal Reserve on Wednesday renewed its pledge to keep interest rates near zero for a "considerable time," but also indicated it could raise borrowing costs faster than expected when it starts moving. In a statement after a two-day meeting of its policy-setting Federal Open Market Committee,…

    Reuters
  • Wondering How You Could Save on Home Insurance?

    Get a quote from Farmers Insurance and discover how you could save. Speak with an agent to get the knowledge you need to make an informed decision.

    AdChoicesFarmers InsuranceSponsored
  • Top Analyst Upgrades and Downgrades: AEP, BHP, GE, Incyte, 3M, Tyco, Under Armour and More

    Top Analyst Upgrades and Downgrades: AEP, BHP, GE, Incyte, 3M, Tyco, Under Armour and More Stocks were firm on Wednesday morning ahead of the FOMC meeting outcome. Tuesday’s rally may have sparked higher interest again, and investors are looking for bargains

    24/7 Wall St.
  • Boeing may have outfoxed Musk, but it could have bigger problems

    Elon Musk is arguably one of the greatest entrepreneurial minds of the 21st Century, but he was outsized an old school aerospace giant. Boeing won the bulk of NASA’s contract for a space taxi.  One of the other companies vying for the deal is SpaceX, the company headed by Tesla’s Musk, will get a…

    Talking Numbers
  • Romney-Sized IRAs Scrutinized as Government Studies Taxes

    The preliminary report attaches data to an issue that drew attention during the 2012 presidential campaign, when Republican nominee Mitt Romney reported an IRA worth $20 million to $102 million. Senate Finance Committee Chairman Ron Wyden said many of these "massive" accounts come from deals…

    Bloomberg
  • The Government Keeps Helping People Buy Failing Cold Stone Creamerys

    Would you loan someone money to buy a Cold Stone Creamery franchise if you knew that more than a quarter of those loans default? Over the last decade, franchisees in the Cold Stone Creamery ice cream chain defaulted on 29 percent of working-capital loans backed by the government, costing taxpayers…

    BusinessWeek
  • Play

    What the Fed Meeting Means for Bonds

    Janet Yellen & Co. are expected to hint at their timetable for raising interest rates. Here's how investors should prepare ahead of the meeting.

    WSJ Live
  • Russian billionaire placed under house arrest

    A billionaire Russian tycoon was placed under house arrest Tuesday in a money-laundering case that has drawn comparisons with a government crackdown on Russia's Yukos oil company more than a decade ago. The Investigative Committee, Russia's top investigative agency, said that Vladimir Yevtushenkov,…

    Associated Press
  • Tired of Living Paycheck to Paycheck?

    New website reveals how to save $1,000's when you're living paycheck to paycheck. See exactly how.

    AdChoices Media ForceSponsored
  • Facebook Is Hiding Important Information From Investors

    Facebook Is Hiding Important Information From Investors Facebook.com/sheryl On July 23, when Facebook reported its earnings for the second quarter, the company stunned everyone. Revenues were $2.68 billion, up 67% from the same quarter during the year

    Business Insider