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Portugal Debt Repayments Loom Large, Euro at Risk

Portugal Debt Repayments Loom Large, Euro at Risk

2011-03-25 19:27:00
Ki Kim,
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The heads of European government summit in Brussels agreed yesterday to increase their financial rescue fund to the full 440 billion by June but refused to make any specific comments on the worsening Portuguese situation. The fate of Euro remains in the balance on the resolution of the ongoing Portuguese sovereign debt crisis.

Portugal, which has been going through a double-dip recession, faces more than 20 billion euros in debt repayments this year and current market yields above 7% are seen as unsustainable. Sovereign credit rating downgrades from Fitch and Standard And Poor’s have come of arguably little surprise, but the threat that further rating cuts are likely looms large.This would make it even more difficult for the Portuguese government to repay some of its debt (about 9 billion euros) due by June, which has already been putting pressure on the embattled nation.

Given the Portuguese political/economic difficulties, external intervention from the European Union and IMF seems likely. Jean-Claude Juncker, head of the Eurozone Group, said that the bailout would be a “matter for the Portuguese government.” Yet the situation is reminiscent of when these ministers denied previous rescues for Greece until the very last moment.

The yield on Portuguese two-year notes reached the highest level since 1999, jumping as much as 40 basis points to 7.00 percent on March 25, 2011. Similarly, its benchmark 10-year bond yield rose to 7.79% from Monday’s 7.53%, hitting euro lifetime highs of over 7.8% earlier this month.

Portugal’s 10-yr Bond Rate

Portugal_debt_crisis_euro_us_dollar_body_IND.png, Portugal Debt Repayments Loom Large, Euro at Risk

As concerns over the economy are likely to prompt a Portuguese bailout, many naturally question how much impact, if any, such international intervention will bring on the currency market. Looking back at the year 2010, we see that the Euro declined sharply when Ireland had formally requested financial support from the European Union's European Financial Stability Facility (EFSF) and the International Monetary Fund (IMF):

*EURUSD : Consistent rise before 21 November 2010 but huge fall after Ireland formally requested financial support

Portugal_debt_crisis_euro_us_dollar_body_Picture_3.png, Portugal Debt Repayments Loom Large, Euro at Risk

Whereas European governments sought to quell the market instability by handing Ireland an 85 billion euro worth of aid package, a bailout for Portugal would be likely to total about 70 billion euros according to two European officials with the direct knowledge of the matter. Although the size of the intervention might be different from the previous two, a bit of historical perspective allows us to expect possible depreciation against other major currencies.

The Euro has recently been under pressure despite broader US Dollar declines—likely a function of fears over Portugal. Until we see material resolution, we might expect the Euro to remain grounded against major forex counterparts and hold below recent highs against the US Dollar.

Written by Ki Kim, DailyFX Research Team

DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.

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