Spain: not in the same category as Greece, Portugal and Ireland

The euro has recovered its composure today after reaching a low of 1.3968 yesterday. It is back above the top of the Ichimoku cloud chart at 1.3974 - the level where the technical uptrend comes to an end.

The fall-off in the single currency yesterday was all down to fears surrounding Spain and Italy. This has led to calls that Spain is no longer de-coupled from Greece and the other peripheral nations who have required bailouts.

However, we would argue that Spain is still considered in a different category to Greece, Portugal and Ireland.

The chart below shows that there are three different categories within Europe's periphery based on how much it costs to insure their sovereign debt.

Way out ahead is Greece, where a default is all but priced in, investors need to pay 1,400 basis points to insure 10m of 5-year debt. To insure Portuguese and Irish debt is around the 660 basis point mark, while Spain is back at 270 basis points. So although the cost to insure debt for all categories has increased, which is a worrying development, Spain still looks like it is out of the way of the firing line for now, while Portugal and Ireland are in less certain territory.

Even so, Spain is doing worse than Germany where it costs a mere 40 bp's to insure 5-year debt (green line on chart).

European sovereign CDS rates

Chart - Bloomberg

What this means for markets:

This isn't to say that Spain's financial security could deteriorate rapidly. Firstly, one can assume the new administrations will uncover fresh debts in the regional governments' books. This may coincide with next month's banks' stress test, which are released across Europe.

However, that may be a story for another day. Right now, Spanish bond yields hit resistance just below 5.5% and have moderated slightly, while Spain's CDS yields have risen to levels last seen in January, but they are still well below the 350+ rate they reached in December 2010.

If yields and insurance costs continue to moderate then we believe the euro can remain comfortable above 1.4000.

So far in the latest round of this sovereign debt crisis EURUSD has been well supported above 1.4000. If today's EU auction of EUR4.7 bn of 10-yeear debt to help fund the bailouts of Ireland Portugal goes ahead without any problem we could see the pair test 1.4100.

But without a doubt, Spain and Italy are both on investors' radar and any fiscal slippages or misdemeanours on the public books will see the euro get punished by investors. June is the key month for a in our view, that may spur a euro sell-off when we hopefully will find out once and for all how indebted Spain's domestic lenders the Caja banks actually are.

Spanish 10-year bond yields (yellow line), EURUSD (white line) and 5-year CDS (orange line)

Best Regards,

Kathleen Brooks| Research Director UK EMEA | FOREX.com

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