Euro, Euro on the Wall


Another ugly day in the market today after an ugly couple of weeks, but of course, all of this comes after a 75% run-up in global markets. Over the last year, and the last few months, the US economy has continued to show signs of healing from the wounds of the 2008-2009 credit and financial market meltdown. After a run-up in the Dow from 10,400 at the start of this year to 11,200 a few weeks ago, we’ve seen a sharp downturn to just under 10,100 as I’m writing this. The net effect for the broad US stock market so far this year has been a drop of about 3% from where it started (which is not in and of itself a horrific number), with much of the recent downturn attributable to the financial woes of Greece and some of its neighbors, their potential impact on the Euro zone, and possibly on the global economy at large. Of course, the bigger worry is not the dip that has happened, but the dip that may lay ahead due to a continuing deterioration in that situation.

In a nutshell, Greece and some of its cohorts (Portugal, Spain, Italy, and Ireland) have debt loads that have become unsustainable, largely due to too-generous social welfare benefits, bloated government payrolls, and in many cases, anti-business government policies that make them uncompetitive within the European Union, and the global economy at large. The net effect is that global credit markets have become unwilling to lend to Greece at anything other than usurious rates, making it difficult for Greece to rollover (re-fund) its continuing debt. Essentially, Greece has lost its ability to borrow, and the concern is that — as was the case of Lehman Brothers — a cascading chain of defaults could again hobble the global credit markets, leading to yet another economic slowdown, especially in Europe and the export-dependent economies of Asia.

The “usual” remedies in such situations have typically involved the country in trouble devaluing its currency, paying its debtors with currency worth much less than it had originally been worth, and some measure of fiscal support from the International Monetary Fund (IMF). This was the case in the region-wide Asian currency crisis of 1997-1998, the multi-country South American currency crisis of the early 80s, and in almost every other crisis of years past. However, because Greece is part of the European Union and no longer has it’s own currency, having adopted the EU-wide “Euro”, it does not have this option. As a result, they are stuck, and the European Central Bank (ECB) is in the position of having to negotiate what amounts to a bailout of Greece, while in return, demanding that Greece adopt a number of austerity measures aimed at improving their longer-term financial prospects. As I’m sure you’ve seen on the news, this has not been a popular measure with the Greek citizenry.

Of course, with the emotional wounds of 2008-2009 so fresh for many investors, this episode is just ripping a scab off of a wound that has not completely healed yet.

During the downturn of 2008-2009, I had a handful of clients who, at one point or another, opted to exit the market at various points ranging from early crisis (fall of 2008) to late crisis (spring 2009), or who were systematically buying INTO the equity markets on a regular basis and who decided to stop their ongoing systematic buy-in. All-in-all, I believe I had about eight clients who exited at some point during that mess and, who eventually reentered or restarted the regular equity purchases.

Needless to say, everyone of those clients exited the market with the intention of getting out at the point they did (which I’ll call Dow X) and presumably getting back into the market either lower than that point, or “when things looked better,” whenever that might be. Of course, if you get out with the Dow at X and want get back at something lower than X (say, X minus 2000 pts), at that time, the world and the markets look even worse and it takes almost inhuman courage to do so — courage that I did not see materialize in ANY case until markets had recovered well beyond where each client had gotten out. For those who said, “call me when things ‘look better'”, by that time, the market and stock prices reflected that fact, as a substantial recovery had already taken hold. The short version is that I had no clients who “got out” and who then got back into the market at or lower than the same point they got out. Everyone who tried to do so lost money in the process, in some cases, substantial amounts.

I also saw this same scenario play out with several clients in 2000 – 2002 (especially in the post-September 11 leg of the downturn), none with success. Suffice it to say, I’m not terribly optimistic about the prospects of getting out and then getting back in at a lower (or even the same) price, based on 16 years of experience with people trying to do just that. The natural instincts that serve us well in times of natural catastrophes and physical danger are just not well-suited for the realities of modern economic life.

By way of some market perspective, news-of-the-day notwithstanding, a 10% market dip, which is about where we are now from the recent peak, is close to an annual event in the US and in global markets. A 20% dip, should that occur, is an every-5 year occurrence. However, given that we have just come off a 75% rise in global markets, the lack of a 10% (or bigger) dip somewhere along the way would be shocking. None of what is going on now is terribly surprising (although it is discomforting) as we’ve seen other currency crises play out many, many times before, including the period of 82-83, when four major South American countries defaulted on their debt on the heels of the worst US recession (81-82) since the 30s (and the US market was up a cumulative 49% those two years, by the way.)

On Europe specifically, I have no idea how this plays out in the short run. Toss a coin over the next few months and your guess is as good as anyone’s. My belief — similar to what I thought in fall of ’08 and spring of ’09 about the US Federal Reserve — is that the European Central Bank and the stronger EU countries WILL pay any price, bear any burden to right the ship and stabilize the system. The stakes are just too high for them to do otherwise, and they know that. So, as was the case in the US during the most recent meltdown, while the ECB’s timing may not be perfect and they will certainly make mistakes along the way, I suspect they will put out the fire. That has generally been the outcome of these kinds of things, even if investors and markets do work themselves into a frenzy in the intervening time period.

With all of that said, I cannot recall a single instance where I have seen an investor sell out in the midst of a panic and end up the better for having done so. However, if you’d like to talk this over in more detail, or discuss your portfolio and its positioning specifically, I would be more than happy to do so.

As always, please let me know if you have any questions or if there is anything I can do for you.