S&P Downgrades Portugal Again To BBB-/A-3, Outlook Negative, Still Somehow Investment Grade

From S&P, although nothing new here. EURUSD does not even blink on the news:

Overview

The concluding statement of the European Council meeting of March 24-25, 2011, addressing the terms under which EU sovereigns may borrow from the European Stability Mechanism (ESM) confirms our previously published expectations that (i) sovereign debt restructuring is a potential pre-condition to borrowing from the ESM, and (ii) senior unsecured government debt will be subordinated to ESM loans.Both features are, in our view, detrimental to the commercial creditors of EU sovereign ESM borrowers, and represent a major departure from the current European Financial Stability Facility (EFSF) regime whereby sovereign EFSF loans rank pari passu with a borrowing sovereign's commercial debt.Given Portugal's weakened capital market access and its likely considerable external financing needs in the next few years, it is our view that Portugal will likely access the EFSF and thereafter the ESM.While we believe Portugal's public sector debt trajectory could start to decline in 2013, thereby creating the possibility that Portugal may be able to obtain ESM funding without being required to restructure its debt (based in part upon our reading of the "sustainable path" language in the EC's concluding statement), the issue of subordination remains.We are therefore lowering our sovereign credit ratings on Portugal to 'BBB-/A-3'.The negative outlook reflects our view that the macroeconomic environment could weaken beyond our current expectations and that a political impasse could undermine the effective implementation of Portugal's adjustment program, leading to non-negligible policy slippages.

Rating Action

On March 29, 2011, Standard & Poor's Ratings Services lowered its sovereign credit ratings on the Republic of Portugal to 'BBB-/A-3' from 'BBB/A-2'. At the same time, the ratings on Portugal were removed from CreditWatch with negative implications, where they were placed on Nov. 30, 2010. The outlook is negative. The 'AAA' transfer and convertibility assessment is unchanged.

Standard & Poor's will hold a teleconference today to discuss the above rating actions. The call will begin at:

4:30 p.m. British Summer Time,

5:30 p.m. Central European Time, and

11:30 a.m. Eastern Time.

See section "Teleconference Information" toward the end of the text for access  details.

Rationale

The downgrade reflects our view of the concluding statement of the European Council (EC) meeting of March 24-25, 2011, that confirms our previously published expectations that (i) sovereign debt restructuring is a possible pre-condition to borrowing from the European Stability Mechanism (ESM), and (ii) senior unsecured government debt will be subordinated to ESM loans. Both features are, in our view, detrimental to the commercial creditors of EU sovereign ESM borrowers.

The EC's concluding statement addresses the issues of sovereign debt restructuring and government bond subordination in items 1 and 3 of the ESM's term sheet (see "European Council Conclusions" below).

According to the EC's concluding statement: "If, on the basis of a sustainability analysis, it is concluded that a macro-economic program cannot realistically restore the public debt to a sustainable path, the beneficiary Member State will be required to engage in active negotiations in good faith with its creditors to secure their direct involvement in restoring debt sustainability. The granting of the financial assistance will be contingent on the Member State having a credible plan and demonstrating sufficient commitment to ensure adequate and proportionate private sector involvement."

"Like the IMF, the ESM will provide financial assistance to a Member State when its regular access to market financing is impaired. Reflecting this, Heads of State or Government have stated that the ESM will enjoy preferred creditor status in a similar fashion to the IMF, while accepting preferred creditor status of IMF over ESM."

It is our view that high current account deficits accumulated over the past 10 years resulted in Portugal's substantial net external indebtedness, with gross external debt exceeding 500% of current account receipts (CARs), and gross financing requirements exceeding 200% of CARs annually in the whole forecast period until 2014. In our view, these financing requirements make it likely that Portugal will access the European Financial Stability Facility (EFSF; AAA/Stable) and, in 2013, ESM funding.

The outlook for Portugal's GDP performance is highly uncertain and will depend significantly on the capacity of the relatively small and closed Portuguese economy to build exports from the currently relatively low base of 30% of GDP. Following last week's resignation of Portugal's minority government, we assume that a new government will be formed by the end of the second quarter 2011. We expect the next government will agree to further fiscal and structural reforms
as part of an EU/IMF program. However, timing and implementation risks remain against the backdrop of an uncertain outlook for the economy and the financial sector.

Under current policies, Portugal's fiscal deficit is likely to exceed the targets established in the Stability and Growth Programme by around 3% of GDP in cumulative terms between 2011-2014; this would still imply that general government debt to GDP would begin to decline in 2013, based on our nominal GDP and interest rate assumptions. However, the uncertain outlook on the economy means that there are sizable downside risks to this relatively benign scenario, given the sensitivity of tax receipts to domestic demand and to imports, amid pressures on commercial banks to tighten credit.

If the government demonstrates that a macroeconomic program can realistically put the public debt trajectory onto a sustainable path, we are of the view, based on our reading of the concluding statement of the EC meeting, that Portugal may be able to obtain funding from the ESM without restructuring its existing debt in 2013, thus avoiding the timing disruption inherent in a restructuring. Nevertheless, any ESM borrowings would be senior to Portugal's government bonds. The seniority of ESM borrowings (and the consequent subordination of government bonds) in our view reduces the prospect of timely repayment to government bondholders, and likely also results in lower recovery values.

Outlook

The negative outlook reflects our view of the risks to Portugal's fiscal performance from a sustained weakening in domestic demand, as government austerity measures and weak credit stimulus weigh on incomes. Portugal still faces sizable twin deficits and their reduction will stress policymakers' resolve in the face of what we believe will become an increasingly hostile public opinion. Risks of a challenging economic and financial environment could negatively affect asset quality and profitability in the Portuguese financial system, potentially triggering the need for capital support from the
government.

If, contrary to our baseline assumption, the next government deviates from the current fiscal targets or if bank recapitalization cost exceeds 3% of GDP, we could lower the ratings further.

On the other hand, if Portugal achieves better-than-anticipated fiscal performance compared to our current forecast, achieves faster debt reduction by 2013, continues to implement growth-enhancing reforms, maintains its pace of strong export growth, and thus reduces its external financing gap, we could revise the outlook to stable.

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Investment Advice Matters, But Investment Risk’s Tops in My Book

By Mitchell Clark, B.Comm.

I don’t like being the bearer of bad news, but we have to keep in mind the investment risks that are out there. One of the biggest risks to your pocketbook right now remains the sovereign debt issue. Make no mistake, the issue of government debt (around the world) and the ability to service it is so serious that you should be planning for several countries in Europe to go broke. In fact, they’re already broke; they just haven’t declared bankruptcy yet.

I’m not kidding about this issue. Sovereign debt affects the largest capital market in the world—currencies (many multiples larger than all the world’s stock markets combined) and when currencies convulse, institutional investors get scared. When that happens, big investors sell and little investors get squeezed.

In a report from Reuters, which is covering a European summit on sovereign debt, the Portuguese parliament is expected to reject new austerity measures to get its fiscal house in order. A rejection of these austerity measures would force Portugal to follow Greece and Ireland in seeking an international bailout (which we all know is done with borrowed money!). Portugal isn’t a big economy by any means, but there’s a pattern forming here and it’s very dangerous. JPMorgan Chase figures the likelihood that Portugal’s government will fall this week is “high.” These growing sovereign debt issues could be the beginning of the end of the euro currency, and that’s a major shock that could have a cascading effect on your pocketbook. It’s no fun thinking about risks to your investment portfolio, but we don’t have any choice. Politicians of every stripe haven’t been honest with us. Eventually, someone has to pay for all this spending.

Currently, the spot price of gold is holding up strong based on risks in the Middle East/North Africa and because of the European debt crisis. I think the price of gold is going to stay strong, because global investors are increasingly concerned about the protection of wealth—not just the creation of it. It’s similar to the subprime mortgage meltdown that spawned an almost catastrophic stock market selloff. The issue now, however, isn’t individual mortgage debt—it’s country debt and unless this issue is addressed by global leaders, the subprime mortgage crisis will seem like a hiccup compared to what will happen if currencies begin to fall. Like I say, it isn’t fun thinking about this stuff, but we don’t have a choice anymore. Politicians around the world have been too quick to make big promises without saying how they’re going to pay for them. I’m afraid a big reckoning is coming and it will about sovereign debt.

Mitchell is a Senior Editor at Lombardi Financial specializing in small-cap stocks. He’s the editor of a variety of popular Lombardi Financial newsletters, such as Penny Stock Reporter, Micro-Cap Stocks, and Monster Profits. Mitchell, who has been with Lombardi Financial for thirteen years, won the Jack Madden Prize in economic history and is a long-time student of equity markets. Prior to joining Lombardi, Mitchell was as a stock broker for a large investment bank. While Mitchell is not working he enjoys fly fishing, motorcycling and tending to his hobby farm.

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Investment Advice Matters, But Investment Risk’s Tops in My Book

By Mitchell Clark, B.Comm.

I don’t like being the bearer of bad news, but we have to keep in mind the investment risks that are out there. One of the biggest risks to your pocketbook right now remains the sovereign debt issue. Make no mistake, the issue of government debt (around the world) and the ability to service it is so serious that you should be planning for several countries in Europe to go broke. In fact, they’re already broke; they just haven’t declared bankruptcy yet.

I’m not kidding about this issue. Sovereign debt affects the largest capital market in the world—currencies (many multiples larger than all the world’s stock markets combined) and when currencies convulse, institutional investors get scared. When that happens, big investors sell and little investors get squeezed.

In a report from Reuters, which is covering a European summit on sovereign debt, the Portuguese parliament is expected to reject new austerity measures to get its fiscal house in order. A rejection of these austerity measures would force Portugal to follow Greece and Ireland in seeking an international bailout (which we all know is done with borrowed money!). Portugal isn’t a big economy by any means, but there’s a pattern forming here and it’s very dangerous. JPMorgan Chase figures the likelihood that Portugal’s government will fall this week is “high.” These growing sovereign debt issues could be the beginning of the end of the euro currency, and that’s a major shock that could have a cascading effect on your pocketbook. It’s no fun thinking about risks to your investment portfolio, but we don’t have any choice. Politicians of every stripe haven’t been honest with us. Eventually, someone has to pay for all this spending.

Currently, the spot price of gold is holding up strong based on risks in the Middle East/North Africa and because of the European debt crisis. I think the price of gold is going to stay strong, because global investors are increasingly concerned about the protection of wealth—not just the creation of it. It’s similar to the subprime mortgage meltdown that spawned an almost catastrophic stock market selloff. The issue now, however, isn’t individual mortgage debt—it’s country debt and unless this issue is addressed by global leaders, the subprime mortgage crisis will seem like a hiccup compared to what will happen if currencies begin to fall. Like I say, it isn’t fun thinking about this stuff, but we don’t have a choice anymore. Politicians around the world have been too quick to make big promises without saying how they’re going to pay for them. I’m afraid a big reckoning is coming and it will about sovereign debt.

Mitchell is a Senior Editor at Lombardi Financial specializing in small-cap stocks. He’s the editor of a variety of popular Lombardi Financial newsletters, such as Penny Stock Reporter, Micro-Cap Stocks, and Monster Profits. Mitchell, who has been with Lombardi Financial for thirteen years, won the Jack Madden Prize in economic history and is a long-time student of equity markets. Prior to joining Lombardi, Mitchell was as a stock broker for a large investment bank. While Mitchell is not working he enjoys fly fishing, motorcycling and tending to his hobby farm.

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Opportunity for Investment: Japan Rebuilding

The tsunami in Japan was devastating, with the thousands of lost loves and horrendous damage to buildings and infrastructure. And, while the lives can never be replaced, there is some hope in the country, as the devastation will drive massive infrastructure spending going forward.

Japanese stocks plummeted over 10% on March 16 on the concerns towards the nuclear leak at one of the damaged power stations and expectations that the damage will hurt the country’s already stagnant economic growth.

The events in Japan will likely impact sales of not only Japanese companies, but also other global multinationals. High-end jewelry operator Tiffany & Co. (NYSE/TIF) cut is first-quarter guidance due to the company’s heavy exposure in Japan where it has 56 stores, or about 24% of its total. I expect other major U.S. companies to be impacted by Japan as well.

The benchmark Nikkei 225 has been rallying since the sell-off, which I thought was a fairly decent buying opportunity for major Japanese stocks that fell in the aftermath of the tsunami. Several of the key Japanese banks, including Mitsubishi UFJ Financial Group, Inc. (NYSE/MTU) and Sumitomo Mitsui Financial Group, Inc. (NYSE/SMFG), are interesting bank plays.

Famed billionaire and investment guru Warren Buffett, who is on a tour in Asia, said that the weakness in Japanese stocks provide a buying opportunity. When Buffett gives investment advice, you’ve got to listen.

My economic analysis is that there will be a significant need to rebuild the damaged areas. There will be new buildings, roads, and various infrastructures in the impacted regions. This means increased demand for concrete, steel, and other building materials. An infrastructure build-up also means that workers will be needed to work on the projects.

Again, not to reduce the significance of the lives lost in Japan, the infrastructure build-up actually comes at a time when the Japanese economy is stagnant and could really provide a boost for the economy in this area. Of course, other sectors will be impacted, but the infrastructure spending will likely give the Japanese economy a much-needed boost.

Other than the banks, you want to look at infrastructure stocks, not only in Japan, but also global companies operating in the United States, such as Jacobs Engineering Group Inc. (NYSE/JEC) and Fluor Corporation (NYSE/FLR).

You also want to look at companies that provide the building materials, like concrete and steel.

George is a Senior Editor at Lombardi Financial, and has been involved in analyzing the stock markets for two decades where he employs both fundamental and technical analysis. His overall market timing and trading knowledge is extensive in the areas of small-cap research and option trading. George is the editor of several of Lombardi’s popular financial newsletters, including The China Letter, Special Situations, and Obscene Profits, among others. His trading advice on stocks and options is also found on his daily trading site, Daily Profits. He has written technical and fundamental columns for numerous stock market news web sites, and he is the author of Quick Wealth Options Strategy and Mastering 7 Proven Options Strategies. Prior to starting with Lombardi Financial, George was employed as a financial analyst with Globe Information Services.

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Investment Opportunities in Maligned Markets

03/08/11 Bogota, Columbia – “One question,” the gentleman asked me, “why Colombia? What are you doing here?”

It was innocent enough, if direct. We were seated at Casa Vieja in an upscale neighborhood in Bogota last night. Chris Mayer, Bruce Robertson, Dave Gonigam and I are being hosted this week by el presidente of Interbolsa, the largest brokerage house in Colombia.

“We believe the market is unnecessarily maligned by lingering fears over the drug war,” we answered, “and therefore less expensive than the market will bear when the real Colombian story gets out. We expect to find opportunity here.”

With price-to-earnings in the 18 range…we wouldn’t exactly call Colombia cheap. Seated at the table with us was a gentleman who makes his living running a fund in Cambodia and who’d just returned from investment tours of Haiti and Cuba. Those places are most assuredly cheaper and possess deeper “value” plays than anything we’ll find here.

Still we think, as with our project in Nicaragua, we believe there is a unique opportunity here. And it’s right in our wheelhouse.

“The security issues are a thing of the past,” our host assured us. “Colombia’s future is food and energy – two things the world needs and will be buying forever.” We aim to find out.

This morning, we begin with a meeting at the Treasury Department. Then off to the HQs of the three largest domestic oil producers in Colombia. We’ll have much more to report tomorrow.

Addison Wiggin
for The Daily Reckoning

Addison Wiggin is the editorial director of The Daily Reckoning, and executive publisher of Agora Financial, an independent financial research firm based in Baltimore, Maryland. His second editions of international best-sellers Financial Reckoning Day Fallout and The New Empire of Debt, which he co-authored with Bill Bonner, were updated in 2009. His third book, The Demise of the Dollar… and Why it’s Even Better for Your Investments was updated in 2008, the same year he wrote I.O.U.S.A.  ??

Wiggin is the executive producer and co-writer of I.O.U.S.A. an acclaimed documentary nominated for the Grand Jury prize at the 2008 Sundance Film Festival and the 2009 Critics Choice Award and shortlisted for a 2009 Academy Award. Wiggin is a three-time New York Times best-selling author whose work has been recognized by The New York Times Magazine, The Economist, Worth, The New York Times, The Washington Post as well as major network news programs. 

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8 Reasons Why Silver Is the Investment of the Decade

If there’s one asset that’s heated up over the last several months amid tensions in the middle east and a second round of the Federal Reserve’s quantitative easing, it’s silver. The price has risen so dramatically, some 20% since January 1, 2011 through today, that investors may be wondering what actions they should take. For those who have not acquired the precious metal, the obvious question is, should I buy now or is silver in bubble territory? Those fortunate enough to have seen the crisis writing on the wall in 2008 and before, and have seen a 200% or more increase in the value on their holdings to date, may be considering selling and locking in profits.

No one can predict what happens next. The fact that silver has “gone to the moon” as metals bugs like to say, should raise awareness and caution in any diligent investor. After all, the last time we saw such meteoric price rises in the summer of 2008, when stocks, commodities and home prices were reaching all-time highs, and precious metals were pushing higher than they had in twenty years, it ended very badly for anyone invested in just about any asset other than the US dollar.

Is there cause for alarm today? Are silver and gold, along with equities and commodities, destined to see yet another massive correction or collapse, as they did when the markets bottomed out in late 2008 and early 2009? The trigger for the last asset crash was blamed, in part, on rising oil prices and food costs, and we are very clearly approaching similar territory today. If gas prices reach that $4.50 mark like they did before many experts, both mainstream and contrarian, have voiced their opinions  that the economy will revert back to no-growth or negative growth, completely disintegrating any semblance of recovery that has been perpetrated on the American people and global populace.

The end result, as in 2008, will likely be a collapse in asset prices.

But will precious metals once again collapse along with equities and commodities, or have we reached the long awaited ‘decoupling’ phase, where tangible assets and historical monetary instruments diverge from traditional paper investments like stocks, or debt based assets like real estate? A similar decoupling occurred in the 1930's, when the Dow Jones and gold assets went their own way:

According to the chart below, silver versus the Dow Jones has outperformed significantly, with the Dow experiencing a collapse versus silver of 86% over the last ten years:

The above chart indicates that we are already seeing a decoupling in terms of value.

Whether you are a new investor deciding whether or not you are going to buy silver at today’s prices, or are currently holding silver related assets and considering whether or not to sell or buy more, we suggest watching the following interview with trusted analyst and financial manager Eric Sprott, whose Sprott Physical Silver Trust is one of the very few “paper” investments that is physically backed with vault-stored (never to be leased) precious metals.

In his latest interview with Canada’s Business News Network, Sprott provides some key reasons for why silver, although priced much higher today than ten years ago, will continue to rise and likely become one of the top performing investments of this decade. According to Sprott, there are various data points that “scream at you that the price of silver has to go higher.”

Before you sell, consider the following reasons for why silver may be the best investment of the decade:

1. Demand is not only up, but still rising. The US Mint in the months of January and February sold as many dollars of silver as they sold dollars of gold. The Chinese used to export 100 million ounces of silver – they now import 112 million ounces – and that’s in a market that’s a total of 800 million ounces, or a 20% shift in just Chinese demand.

2. Supply and Delivery Challenges for Physical Bullion. In a market that trades roughly 400 million (paper) ounces a day, when Sprott Asset Management was preparing to open their physical silver trust they had difficulty acquiring just 15 million ounces. Other evidence direct from the US Mint further solidifies this point. The Mint recently advised potential investors that it can longer coin the popular Silver American Eagle saying, “The United States Mint will resume production of American Eagle Silver Uncirculated Coins once sufficient inventories of silver bullion blanks can be acquired to meet market demand for all three American Eagle Silver Coin products.”

3. Technological demand for silver is increasing. In 2010 industrial production of silver was up 18% due to rising demand from the technology sector. Among other things, silver is increasingly being used in computers, cell phones, and solar panels. Health care, alternative and traditional, is another market segment that will see silver demand increase because of silver’s antibiotic properties. It’s already being used in bandages, clothing, and medical devices.

4. Silver is closing the margin on the gold-to-silver ratio. Historically, though not in recent decades, silver has traded at an average ratio of about 16-to-1. It is currently trading at about 40-to-1, and just recently was trading at nearly 70-to-1. If the historical ratio of gold to silver holds up, then if gold is priced at $1600 an ounce, silver would need to be trading at about $100. If gold were to trade at $3000 an ounce, a prediction made by several contrarian precious metals analysts, silver would trade at $300 if the gold-to-silver ratio returned to historical norms.

5. There is a silver shortage. We’ve already discussed the supply issues that many investors taking large deliveries may be experiencing. But, there is also a pricing disconnect occurring, that indicates supply problems, at least in the short-term, are prevalent. According to Sprott and other analysts, forward looking silver prices indicate that a silver shortage exists. The phenomenon of price “backwardation” is one way of being able to identify this. Though there are millions of ounces in the ground, backwardation can mean there is simply not enough of an asset available right now. Sprott, for example, says that when they purchased the aforementioned 15 million ounces of silver, some of it wasn’t even minted until two weeks after they made the purchase, suggesting that existing inventory is simply not available.

6. More (Paper) Money. As the US Federal Reserve and central banks around the world continue to deal with fiscal issues through monetary means, more and more paper currency hits the global marketplace. As a result, more money is chasing fewer goods, with silver being one of those goods. For the reasons above, as well as the fact that there is more money available, the price of silver will continue to “inflate,” just like other hard assets. Over the last 100 years, since the Federal Reserve was established, the US dollar has lose some 95% of its value. This is a long-term 100 year trend, and given the current policies of the Fed, which are no different than the policies of the last century, the US dollar will continue to depreciate.

7. Gold for Main Street. While an ounce of gold may cost $1500, silver is significantly cheaper, giving working individuals and families the ability to invest without having to spend this month’s mortgage on a coin. Silver is available in various weights and mintages, from one ounce government issue coins like silver eagles to one-hundred ounce poured bars from Johnson Matthey. In addition, for newer investors, though fake silver exists, the risk to the investor is much lower because of the price, and investors can choose US “junk silver” coins like pre-1965 half dollars, quarters and dimes for easily identifiable and tradeable instruments. With silver, anyone who has a desire to do so can become their own central bank.

8. Crisis. Inflation is often identified as the single biggest reason for why precious metals like gold and silver rise. However, this is not always the case. During the 1990's, a period where inflation was anywhere from 1% to 6% annually, the price of gold and silver barely moved. There was simply no investor demand. One of the reasons for this may have been because during the 90's, the US was experiencing a period of boom. It was the advent of the internet and the general mood was positive. Stocks were rising and were the primary investment vehicle of choice during the technology boom. Gold and silver took a back seat. After the technology crash and September 11th, however, sentiment changed. As boom times gave way to recession, precious metals rose. They continued to rise as governments, namely in the US, passed more restrictive laws on everything from personal liberty to capital investment. When countries start restricting freedoms, people tend to shift capital. Throughout the first decade of the 21st century, this may have been the primary reason for gold and silver’s powerful rise. After the collapse of 2008, more and more investors began to realize that crisis is upon us. The government, failing to mitigate the problem, and likely making it even worse, forced those in traditional investments into the safe haven historical assets of choice – gold and silver. Thus, while inflation may play a part in the rise of precious metals, it is the perception that government is unable to deal with crisis that has been the real driving force. As the economic crisis continues to deepen, civil unrest breaks out around the world, and citizens lose faith in their government’s ability to manage crisis, the prices of precious metals, the last vestige of monetary security, will continue to rise.

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