London-based Cairn Capital is betting on France and Germany losing their AAA status, according to a Reuters report.
The hedge fund, which manages $24.5 billion in assets cited potentially high costs of bailing out periphery countries throughout the European Financial Stability Fund and France’s huge exposure to Italy as reasons for a possible downgrade.
Graham Neilson, the fund’s chief investment strategist told Reuters, “France is likely to be downgraded either on its own metrics but more likely as a result of potentially higher EFSF costs. The bigger the EFSF, the more France is liable (and) the worse France’s credit rating the more it could be liable.”
A larger EFSF will also affect Germany’s rating.
“Germany could also quite easily be downgraded if the EFSF is forced to be larger, in a scenario where France and Germany end up with debt to GDP ratios of 120-125 per cent. That’s not good, that’s not AAA,” Neilson added.
But this week, Angela Merkel and Nicolas Sarkozy failed to come to an agreement that would increase the size of the EFSF.
Standard and Poor’s recent downgrade of the United States did nothing to increase the Treasury’s borrowing costs, and therefore it is not certain that a downgrade would affect bond yields for France and Germany. The downgrade of the United States was seen by some analysts as an attempt on the part of S&P to regain it’s legitimacy after their colossal failure to accurately rate reams of mortgage-backed CDOs prior to the financial crisis of 2008.
Downgrades are often good predictors of actual defaults, but the markets are usually ahead of the ratings agencies.