Unicredit Shares Fall Again, Merrill Lynch Downgrades

At the present time the Achilles heel of the Italian economy has a name, and it is called Unicredit. In a number of posts on this blog (here, here, here, here) I have tried to draw attention to the potential problem the deteriorating balance sheet of what is now Italy's second bank by market capitalisation (after Intesa Sanpaolo) it used to be the first before the shares fell) and first bank by assets, and how this issue is exaccerbated by the fiscal embarassment of the Italian state.





The spread between Italian and German 10-year bonds hovered around 1.36 percentage points on Monday, more than four times its average over the euro's first eight years. Continuing social unrest in Greece has also pushed the gap between the yield on that country's 10-year bond and that of its German counterpart to a fresh high of more than two percentage points (see much more on Greece here).

At the same time, the cost of buying insurance on Spanish, Italian and Greek debt has more than tripled over the past six months, according to credit information firm Markit Group. Even as the market turmoil has eased in recent weeks, the price of such insurance on Southern European debt has continued to increase, touching highs earlier this month. The widening spreads and increasing insurance costs show opinions among investors about the short term outloook now vary considerably between one eurozone country and another.

Such widening spreads mean more expensive bond auctions for the Italian government in the future, and this is just where the trouble comes, since Italy has a very hefty accumulated debt to continually refinance (around 105% of GDP), and it is partly because investors don't see clearly how a government with a damaged banking system and an economy which looks set to shrink for at least two years can continue shoulder the weight of this debt let alone increase it, especially given the evident difficulty faced by the Italian government in enforcing measures to reduce it, that the widening is occuring.

And this is what makes Unicredit such a major headache for the Italian government, since any substantial increase in government borrowing needs could become completely counter productive if it precipitated an increase in the spread and thus an increase in the costs of borrowing over all those parts of the debt which fall due for refinancing.


Unicredit 2008 Earnings Won't Meet Target


Unicredit shares fell in Milan trading this morning after the bank admitted 2008 earnings won’t meet their target. Unicredit shares were down as much as 4.7 percent - to 1.52 euros at one point - their lowest price since 5 December, and were trading at 1.55 euros (down 2.6 percent) in Milan, giving it a market value of 20.7 billion euros. UniCredit said in a statement late yesterday that it expects net income of 4 billion euros in 2008, excluding a property sale that will be smaller than planned. The company in October forecast net income of 5.2 billion euros.

UniCredit recently reached an agreement with unions to offer early retirement to 3,700 workers in an attempt to cut costs amid the global financial crisis, and last week they bank pulled out of an option they had to buy the Polish government's remaining 3.95 percent stake in Bank Pekao in order to not put more strain on the bank's solvency ratios.


Merrill Lynch Downgrade

Unicredit was downgraded to "neutral" from "buy" by analysts at Merrill Lynch this morning. The bank cited “the fast deteriorating macro picture in Italy and Central Eastern Europe”

“The high exposure to Central Eastern Europe and to the corporate business result in UniCredit above average sensitivity to the poor macro environment and to asset quality deterioration,” London-based analysts Antonio Guglielmi and Andrea Filtri wrote in a note to investors today.

Ukraine Clients May Default On 60% Of Loans

A 44 percent slide so far this year in the Ukraine currency, the hryvnia, is threatening the repayment of loans and mortgages denominated in foreign currencies. Roman Zhukovskyi, head of the social and economic department in President Viktor Yushchenko’s office, estimated in a televised press conference in Kiev on Wednesday that if the hryvnia traded near 9 per dollar, some 60 percent of loans may not be repaid.

“A substantially weaker hryvnia is going to seriously hurt corporations since Ukrainian companies have massive external liabilities,” said Ozgur Yasar Guyuldar, a senior emerging markets strategist in Vienna at Raiffeisen Centrobank AG, who forecast the decline to below 9 per dollar in November. “It is inevitable to see dozens of corporate bankruptcies.”

In an attempt to soften the devaluation blow and bolster the currency Ukraine’s central bank raised its refinancing rates for the second time in two days today to 22% after the hryvnia fell as much as 16 percent in the past two days. But this is likely to be of little avail given that the economy is already headed for an estimated 5% GDP contraction in 2009, and these kind of interest rates make any softening of the economic slump impossible.

Of course the meltdown which is taking place in the East at the moment does have its own special surreal dimension, since while Merrill Lynch analysts in Italy are busy pushing down Unicredit's share price, Unicredit analysts in Moscow are busy biting the hand (in Italy) that feeds them by downgrading the Russian property market, and with it the Russian property developers, whose defaults will, in their turn, drive Unicredit's share price in Italy down even further.

Russian property stocks slid in Moscow trading after UniCredit SpA said real-estate prices are so inflated they may need to be halved to lure buyers back to the housing market. OAO Sistema Hals, the developer controlled by Russian billionaire Vladimir Yevtushenkov, slid as much as 11 percent to 319 rubles, as UniCredit called Moscow’s property market “overheated.”

Ukraine is just one - at this point extreme - example of the kind of level of default we can see among holders of forex loans across Central and Eastern Europe in 2009, and Unicredit is in the forfront of the exposure to these defaults, which means, effectively, that the medium term future of the Italian economy at this point in the hands of the CEE countries. Which is why Italy's biggest economic headache has a name, and that name if Unicredit.

Italy's Manufacturing Contraction Accelerates In November

Italy's manufacturing purchasing managers' index contracted at the sharpest pace in Italian survey history in November. The Markit/ ADACI manufacturing PMI declined to 34.9 in November, reflecting the sharpest deterioration in operating conditions in the sector in the eleven and half years of data collection. A reading above 50 indicates expansion, while a reading below 50 signifies a contraction.



Series record falls were also recorded for output, new orders, export orders, backlogs of work, purchasing activity and employment. At the same time input prices fell for the first time in 40 months in November, with the decline in costs being the steepest since late 2001. Fall in prices of oil based products and raw materials were the key drivers of this decline. At the same time, the factory gate prices registered the steepest drop in survey history, although the rate of fall in these prices was much slower than that of input costs.

Andrew Self, Economist at Markit Economics, commenting on the latest PMI data said "With the Italian economy already in technical recession, latest data from the manufacturing sector indicates that the economic downturn has accelerated markedly through the fourth quarter so far.

Output Down 6.9% In October - Stats Office

This PMI reading is only confirmed by the latest data from the Italian Statistics Office - ISTAT - on industrial output in October. Month-on-month production dropped a seasonally adjusted 1.2 percent - following a revised 2.6 percent drop in September, the national statistics office in Rome said today. Year on year production adjusted for working days fell 6.9 percent.



More significantly, the output index continues to fall month by month, and is now well below that December 2006 historic high of 101.1. Maybe we should be asking ourselves, will we ever get back up there again? Certainly it won't be easy, and not in the present climate.

As Prices Fall In November, Is There A Deflation Risk In Italy?

Italy’s inflation rate fell to its lowest level in 11 months according to the ISTAT initial estimate out today, as energy costs fall and the economic recession makes it harder for producers and retailers to raise prices. Consumer prices calculated on the basis of the European Union harmonised methodology rose 2.8 percent from a year earlier, down from the 3.6 percent registered in October.





So the rate of disinflation is very rapid - but what about outright deflation, or an actual sustained fall in prices. Is there a risk of this in Italy? Well at the present time it is very hard to say, but month on month prices fell 0.4 percent in November, and the index is thus still at the same level it was in June (see chart below). That is Italian prices have been stationary since June. This is largely due to the negative energy prices shock, but with the sharp contraction in both internal and external demand now facing the Italian economy outright deflation certainly cannot be ruled out at this point.

Italian Retail Sales Fall At Record Pace In November

Italian retail sales fell at the fastest pace since records began (at least four years) in November as the economy slipped deeper into a recession, and consumer confidence and spending consequently deteriorated. The seasonally adjusted retail purcahsing managers index fell to 28.5 from 34.8 in October, registering the sharpest rate of contraction since the survey began in 2004, according to the Markit Economics monthly report. A reading below 50 signals contraction.



Non price corrected retail sales rose 0.5% year-on-year in September (the latest month for which ISTAT has published data) following a 1.3% fall in August. But we need to remember that once we allow for price inflation, we get a constant price real drop of 3.4% (inflation was running at 3.9% in September, see chart below for the time series). Retail sales of food products increased 1.4% in the month, although this impact was partly offset by a 0.1% fall in retail sales of non-food goods. Month-on-month, seasonally adjusted Italian retail sales (non price corrected) were up 0.3% in September, following a 0.5% decline in the previous month.