As dramatic as the scenes were on television during the voting by the Greek Parliament, the passing of the measures is the tip of the iceberg in the overall scheme to get the Euro zone in order. This vote ensures the release of $12bn of the $100bn bailout money but will not be the panacea to the Greek problems. There are reports that the privatization plans for the countries assets will fall short of the money they are estimated to bring in.
Over the long term the Euro will have to deal with the problems of these debt issues proper. I feel this could easily result in countries leaving or being removed from the EURO currency. Should this occur, is not going to be as much an issue as how this will occur. If the EURO keeps its stronger nations it could keep its place as a growing alternative to the US as a safe, liquid currency. Issues with the more indebted nations could force stronger countries out of the EURO, if the EU starts to cater policy in the favor of the less fortunate countries.
Last week the Basel committee met to try and find new regulations to address the ‘too big to fail’ problem as well as other issues they feel will impact the future stability of the global banking system. This leads to the question of whether the banking sector is a buy during this weakness. While it does seem tempting to look at some of these banks as a valuation play, the future revenues of these companies, as well as their dividends, are in jeopardy. Being selective on which banks to purchase would be a wise decision from here. Banks, such as regional and Japanese banks could see a benefit from these rules, while larger US institutions will no doubt see margins contract.
The IEA has committed to releasing 60m barrels a day over the next month in order to ease the supply shocks from the Middle East issues. While this will ease the supply issues there is more to be seen from this. Lower gas prices are another way to put more into the consumers’ pockets and hopefully lower the inflationary pressures that the price has had on economies. This served another purpose as a signal to OPEC that actions will be taken to compensate for their inability to get production increases through at their last meeting.
It will be interesting to see how this 2m barrels a day of extra supply will move the price of oil. Should demand truly be as large as some say, the price will continue to rise. If the price stabilizes or even drops, that will give a clear signal that the fundamentals are not too far out of equilibrium. This is assuming that no speculation is moving the marketplace however.
The bank of England signaled that they may need to keep the bond purchasing program going because of ‘downside’ risks to the recovery. This has cause the pound to drop to the Dollar as well as other major currencies. With the Fed set to speak today, one shouldn’t expect the language to be too different from across the pond. With the purchase program coming to an end the FED may want to reassure investors that it is be committed to repurchasing securities with the proceeds. This will be a way to calm investors concerned about the implications of the end of the easing program.
A key difference that should be noted with the two banks is the inflation rate. With the US still comfortably below its 2% target rate, the US has more room to ease without any concerns about real inflation or the ‘transitory’ inflation that both banks talk about. England is over double the bank’s target rate, making the possibility of easing longer term more difficult and may require higher rates sooner rather than later.
With European markets off their highs and skepticism around some sovereign debt, some countries may find this as a good opportunity to diversify their holdings as a relatively cheap price. Reports suggest that China ha diversified away from US assets more since the beginning of this year, possibly putting money to work in the Euro zone. Japan has expressed interest in the participation of any future bailouts as a tool to diversify their holdings and get better returns. I am not too sure this would be a buy signal for many retail investors as the reasons for these purchases are more for diversification purposes than the prospects of great returns for the risk. Any participation could help peripheral countries when the time comes to issue more debt, as the interest from international buyers could help replace the skepticism of domestic buyers. One should also be thinking of the Middle Eastern sovereign wealth funds that started buying up ‘undervalued’ US assets in 2008, where their investment decisions were mixed.
The Greek crisis is front and center in the news and on everyone’s mind as far as risk on/off trades. Many of the EU countries are not going to pledge more money without more austerity measures from Greece. This has drawn a lot of attention to assets of Euro countries, which may be benefiting the US more than the fundamentals would like.
There is a looming credit default pending in the US, and no progress made on the austerity measures that will be taken in the medium term to lower debt to GDP. There cold be a focus of negative sentiment on US debt and the dollar shortly after as resolution (albeit a short term one) is found for the Euro zone issues. Short term traders may want to take off some “long US” (long treasuries and USD) positions here and wait for more volatility to get back in. Longer term investors should think of taking profits from any long term treasury holdings or fixed income funds that have experienced a good run over the past few years.
There is more talk in the news today about riots and unrest, but not from the Euro zone. While inflationary pressures are still causing unrest throughout China there are growing issues across the spectrum that are causing unrest as well. Many do not see this as a threat as the incidents are localized and not for a single cause. The fact that these incidents are occurring and citizens are starting to protest shows that there is increased pushback against government for mistreatment. If Beijing does not start to be more accommodative to the people, the political environment (as well as the economic environment) will become a lot worse.
The S&P has further downgraded Greece’s long term debt to triple C, a sign that it may have to downgrade into default soon. The EU is holding an emergency meeting to try to finally hash out the language of the restructuring without triggering a default. One important thing to keep in mind is no matter what the EU decides, or if the restructuring does in fact classify as a default; Greece cannot handle its obligations and is technically in default. The main reason for the worry within Europe is to prevent write downs on Greek debt, which is held by banks throughout Europe. This could create a contagion effect that Europe will try to prevent at all costs.
I have posted a new blog (part 1 of 5) that will outline the thoughts surrounding the new Vine strategy decisions. Each week I will post the Vine’s outlook on a different asset class; this week is a macro overview. The blog is titled “The Search for Yield 1/5: Overview” in the Articles section of the website.
Today the Financial Times reported that German banks have cut their exposure to Greek debt, going against earlier promises that there would be no change in their exposure to the country. As things start to look bleak, the banks do what they have to in order to limit losses they may not be able to afford. This could stem into a larger issue as banks across Europe are holding sovereign debt of many of the countries in trouble. This could limit many banks willingness to lend and slow down the euro-zone from its recovery, especially in the face if raising rates.
The ECB hinted that it will raise rates at their next meeting, but the prospects of further increases from there (currently at 1.25% said to go to 1.50%) may be further off. This could be beneficial to the euro-zone as a whole should interest rates not get out of hand. The raising of short term interest rates to 1.5% will ring a bit more normalcy to the yield curve and allow risk to be properly measured, while not increasing too far as to make borrowing too expensive. It is still too early to tell but should that work for Europe, the US should pay close attention.