Portugal
21 June 2011
Financial problems have engulfed Portugal, tempering the securities
lending market
Image: Shutterstock
And so the dominos are falling. First Greece, then Ireland and now Portugal. As one of the PIIGS countries, along with Italy and Spain, Portugal has found the financial downturn hard work, with an EU bailout just around the corner.
While it would be unfair to describe the country’s spending as reckless, Portugal has over the past few years invested heavily in its infrastructure, often through public-private partnerships. As a result, it has institutionalised high levels of public debt, expensive overheads, high upper management costs and a large public sector, which many say is too top heavy and often redundant.
With bond yields rising, the country’s credit rating slipped - Moodys reduced its ranking from A1 to A3 and proffered a negative outlook - and a sale of Portuguese debt failed. 10-year bond yields rose over 450bps. In April the inevitable happened, with a request for a financial bailout from the IMF and European Union. The cash injection is worth around 80 billion euros.
The political fallout of the crisis has been heavy. The bailout funds don’t come for free, and the Government fell after it was heavily criticised both for the high levels of spending leading up to the crisis and its inability to manage the country through its difficulties. With foreign liabilities of 108 per cent, Portugal’s external debt is technically worse than that of Greece, although the overall economic situation doesn’t appear as bad.
Although Portugal is a modern economy and longstanding member of the EU and the euro, it is not a particularly wealthy country, even at the best of times. It has the lowest GDP per capita in Western Europe and one of the lowest incomes per head of population of the whole European Union. Portuguese attitudes to work-life balance tend to veer to the side of the life, with relatively low incomes. At least for those who have a job - unemployment has hit 10 per cent at times over the last year, with graduates and young professionals particularly hard hit. With a heavy reliance on tourism, particularly at the mid to higher end of the market, falling incomes across the rest of Europe has had a further knock on effect.
One of the problems Portugal is facing is really not of its own making. Because the bailout for Greece hasn’t quite gone as planned, with the country failing to impose austerity measures, seemingly unable to reduce the amount of tax evasion and having to go begging for further cash, there is a lack of trust from the authorities. This means that the restrictions that come with the funds on offer are tighter than ever. If Greece defaults or comes back for even more money, the pressure will mount further.
And this hasn’t proved popular with the Portuguese people. Already struggling with one of the lowest average incomes in Western Europe, they are seeing their salaries drop - if they keep their jobs - and the costs of living rise dramatically, all against a backdrop of reduced public services. There have been demonstrations - albeit nowhere near the scale of those seen in Greece - and the politicians have been demonised. As the cuts continue to bite, the country is braced for further unrest.
This crisis has also had a severe impact on Portugal’s domestic banks. Having been effectively shut out of the markets for over a year, they’re struggling to get funding and most are relying on the European Central Bank to keep going. Most of the country’s larger banks are foreign-owned, which has reduced some of the problems, but with such little confidence in the market, there is a long road back.
Securities lending
Since joining the European Union - and particularly since the introduction of the euro - Portugal’s banking system has quickly advanced and is as modern as any in Western Europe. Securities lending operations have long been a part of the Portuguese financial system and new rules, introduced at the turn of the millennium, codified the transactions.
However, the country’s pension system almost collapsed in 2007, with liabilities far exceeding revenues. However, root and branch reforms have put the industry on a firmer footing, with increased potential for securities lending.
Public sector pensions will now look at an individual’s contribution history to determine pension entitlements, and the country’s increasing life expectancy will also be the benchmark when setting retirement ages. The previous system allowed retirees to use their top 10 earnings years to reference their pensions and public employees were able to retire at the age of 60 if they had 35 years of experience under their belts. Consequently, the aging population - consistent with nations across Western Europe - meant there were fewer people working than already in retirement.
The reforms had been expected to move Portugal to a sustainable system, albeit largely by reducing the amount a pensioner receives. It was anticipated last year that following the reforms, as a percentage of their individual earnings, a retiree would receive 54.1 per cent of economywide average earnings, down from 90.1 per cent, according to the OECD.
First pillar pensions were expected to be reduced by 10-20 per cent, causing individuals to turn to occupational schemes and personal savings plans.
But it’s been slow going - the cap on the payout levels has not been established and, unsurprisingly for a country with high levels of consumer debt and growing concern about personal finances, low take-up of personal plans. But it’s early days, and significant growth is expected over the coming decade.
As the market started to feel the turmoil, short selling restrictions were introduced. In June last year, they were further expanded -the new regulation - 4/2010 - extends the requirement for mandatory reporting of short interest to the CMVM. It replaces rule 4/2008.
Reporting is now applicable to all shares that are admitted to trading on a regulated market or multilateral trading. Previously this only applied to the shares of companies included in the PSI-20.
The threshold for reporting to the CMVM is now 0.20 per cent (previously 0.25 per cent), and disclosure to the market must be made at 0.50 per cent. All increases and decreases in significant short interests exceeding thresholds of 0.1 per cent must also be reported and disclosed.
According to Data Explorers, Portugal recently hinted its 2010 deficit could be worse than the forecast at 7.3 per cent of GDP, which dwarfs the EU target of three per cent. The fund flow scenario is similar to that of Greece. Institutional investors own just under USD 6 billion of Government debt and this is the lowest level over the past year. This is a lower figure than Greek Government debt, given that Greece has already been bailed out.
Like Greece, a couple of near term Portuguese Government bonds have shown strong demand to borrow (3.2 per cent 15 Apr 2011 and 5 per cent 15 Jun 2012).
Meanwhile, in the equity space, there is no sign that funds are covering their short positions in Banco Espirito Santo (ELI:BES), which shows four per cent of its total shares outstanding on loan, representing almost 50 per cent of the available supply.
Banco Comercial Portugues is another equity with diverging sentiment, said Data Explorers’ Alex Brog. Short selling rose to eight per cent of all shares earlier this year.
But there remains confidence in the industry. Although restrictions on short selling are likely to remain in place for some time, the levels of activity continue to remain strong. While Portugal has had its problems and lost the confidence of some investors, most are staying in the market and waiting for the tide to turn.
While it would be unfair to describe the country’s spending as reckless, Portugal has over the past few years invested heavily in its infrastructure, often through public-private partnerships. As a result, it has institutionalised high levels of public debt, expensive overheads, high upper management costs and a large public sector, which many say is too top heavy and often redundant.
With bond yields rising, the country’s credit rating slipped - Moodys reduced its ranking from A1 to A3 and proffered a negative outlook - and a sale of Portuguese debt failed. 10-year bond yields rose over 450bps. In April the inevitable happened, with a request for a financial bailout from the IMF and European Union. The cash injection is worth around 80 billion euros.
The political fallout of the crisis has been heavy. The bailout funds don’t come for free, and the Government fell after it was heavily criticised both for the high levels of spending leading up to the crisis and its inability to manage the country through its difficulties. With foreign liabilities of 108 per cent, Portugal’s external debt is technically worse than that of Greece, although the overall economic situation doesn’t appear as bad.
Although Portugal is a modern economy and longstanding member of the EU and the euro, it is not a particularly wealthy country, even at the best of times. It has the lowest GDP per capita in Western Europe and one of the lowest incomes per head of population of the whole European Union. Portuguese attitudes to work-life balance tend to veer to the side of the life, with relatively low incomes. At least for those who have a job - unemployment has hit 10 per cent at times over the last year, with graduates and young professionals particularly hard hit. With a heavy reliance on tourism, particularly at the mid to higher end of the market, falling incomes across the rest of Europe has had a further knock on effect.
One of the problems Portugal is facing is really not of its own making. Because the bailout for Greece hasn’t quite gone as planned, with the country failing to impose austerity measures, seemingly unable to reduce the amount of tax evasion and having to go begging for further cash, there is a lack of trust from the authorities. This means that the restrictions that come with the funds on offer are tighter than ever. If Greece defaults or comes back for even more money, the pressure will mount further.
And this hasn’t proved popular with the Portuguese people. Already struggling with one of the lowest average incomes in Western Europe, they are seeing their salaries drop - if they keep their jobs - and the costs of living rise dramatically, all against a backdrop of reduced public services. There have been demonstrations - albeit nowhere near the scale of those seen in Greece - and the politicians have been demonised. As the cuts continue to bite, the country is braced for further unrest.
This crisis has also had a severe impact on Portugal’s domestic banks. Having been effectively shut out of the markets for over a year, they’re struggling to get funding and most are relying on the European Central Bank to keep going. Most of the country’s larger banks are foreign-owned, which has reduced some of the problems, but with such little confidence in the market, there is a long road back.
Securities lending
Since joining the European Union - and particularly since the introduction of the euro - Portugal’s banking system has quickly advanced and is as modern as any in Western Europe. Securities lending operations have long been a part of the Portuguese financial system and new rules, introduced at the turn of the millennium, codified the transactions.
However, the country’s pension system almost collapsed in 2007, with liabilities far exceeding revenues. However, root and branch reforms have put the industry on a firmer footing, with increased potential for securities lending.
Public sector pensions will now look at an individual’s contribution history to determine pension entitlements, and the country’s increasing life expectancy will also be the benchmark when setting retirement ages. The previous system allowed retirees to use their top 10 earnings years to reference their pensions and public employees were able to retire at the age of 60 if they had 35 years of experience under their belts. Consequently, the aging population - consistent with nations across Western Europe - meant there were fewer people working than already in retirement.
The reforms had been expected to move Portugal to a sustainable system, albeit largely by reducing the amount a pensioner receives. It was anticipated last year that following the reforms, as a percentage of their individual earnings, a retiree would receive 54.1 per cent of economywide average earnings, down from 90.1 per cent, according to the OECD.
First pillar pensions were expected to be reduced by 10-20 per cent, causing individuals to turn to occupational schemes and personal savings plans.
But it’s been slow going - the cap on the payout levels has not been established and, unsurprisingly for a country with high levels of consumer debt and growing concern about personal finances, low take-up of personal plans. But it’s early days, and significant growth is expected over the coming decade.
As the market started to feel the turmoil, short selling restrictions were introduced. In June last year, they were further expanded -the new regulation - 4/2010 - extends the requirement for mandatory reporting of short interest to the CMVM. It replaces rule 4/2008.
Reporting is now applicable to all shares that are admitted to trading on a regulated market or multilateral trading. Previously this only applied to the shares of companies included in the PSI-20.
The threshold for reporting to the CMVM is now 0.20 per cent (previously 0.25 per cent), and disclosure to the market must be made at 0.50 per cent. All increases and decreases in significant short interests exceeding thresholds of 0.1 per cent must also be reported and disclosed.
According to Data Explorers, Portugal recently hinted its 2010 deficit could be worse than the forecast at 7.3 per cent of GDP, which dwarfs the EU target of three per cent. The fund flow scenario is similar to that of Greece. Institutional investors own just under USD 6 billion of Government debt and this is the lowest level over the past year. This is a lower figure than Greek Government debt, given that Greece has already been bailed out.
Like Greece, a couple of near term Portuguese Government bonds have shown strong demand to borrow (3.2 per cent 15 Apr 2011 and 5 per cent 15 Jun 2012).
Meanwhile, in the equity space, there is no sign that funds are covering their short positions in Banco Espirito Santo (ELI:BES), which shows four per cent of its total shares outstanding on loan, representing almost 50 per cent of the available supply.
Banco Comercial Portugues is another equity with diverging sentiment, said Data Explorers’ Alex Brog. Short selling rose to eight per cent of all shares earlier this year.
But there remains confidence in the industry. Although restrictions on short selling are likely to remain in place for some time, the levels of activity continue to remain strong. While Portugal has had its problems and lost the confidence of some investors, most are staying in the market and waiting for the tide to turn.
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