@cactus281 on investment after Greece

Written by @cactus281 Sunday, 20 May 2012 20:59
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@cactus281, or Hendrik as he's also known is a wealth manager in UAE.


Greece, as we all know is in turmoil.


The recent election was all about personal hardship of families. About people not having jobs and losing hope of finding a steady income. It was the vote of a demoralised nation and a strong rejection of austerity. The next election will in all probability yield the same result – a rejection of austerity with the politicians facing the same challenge to create a unity government.


We just witnessed the trial run; hopefully they have learnt enough to make it work the second time around.


AssumptionAfter the election in June the politicians succeeds in forming a coalition government.


This new government will face the choice of accepting or rejecting the austerity measures that were agreed between the previous coalition and the troika.


If they accept austerity the possibility of a popular revolt and more dramatic pictures on CNN is a distinct possibility. If the new government rejects austerity on the basis that the people will not stand for it, the EU leaders will have to decide if allowing Greece to exit the Euro zone would be in Europe’s best interest. They will be between a rock and a hard place, but in that scenario Greece will probably exit the Euro zone. The question at that time will be whether the firewalls will be strong enough to contain any risk of contagion.


French banks, Spanish banks, the periphery EU states – mostly Balkan and Eastern European, Italy, Ireland and Portugal will be particularly vulnerable to any contagion.


One solution to containment might be to launch another LTRO program, but this time aimed particularly at these vulnerable sectors. Recent market volatility has come mostly down to uncertainty and a lack of confidence about the effectiveness of the measures the EU leaders have taken to remedy the situation. Even bad news (Greece leaving the EU) might be good news if it provides a clear direction for expectations.


Assumption: Another LTRO program

The main opponent thus far to any form of US style quantitive easing in the Euro Zone has been Germany.


The German people have collectively a pretty long memory. They do not want a repeat of the hyper inflation suffered in the 1930’s. Hence, since they control the purse strings, no QE. However, another LTRO is more palatable, especially with the spectre of inflation fading a bit. Recent data indicate that the EU is in recession. Now the question: How do you grow out of recession if you have a diet of austerity?


There is no apparent quick fix to this question. Something leaders like Mario Monti are very aware of. He was one of the 1st prominent and influential policy makers to call for a shift in focus away from pure austerity towards a mix of growth and austerity measures. Recent election results all over the EU magnify this trend even more. Holland’s government (by reputation fiscally very responsible) could not agree on budget cuts and hence collapsed. The new French President, Mr. Francois Hollande came into office on a ticket of growth. Local elections in both the UK and Germany resulted in heavy losses to the incumbents. We also witnessed protest rallies all across the Euro zone by people demonstrating against current policy.


The purpose of austerity:

When Greece finally came clean about their budget deficit in 2009 the lights suddenly came on for many of the European policy makers and economist.


Suddenly every country in the collective was under scrutiny and the makeup came off. We saw the girl for who she really is, and she turned out to be unfriendly on the eye. We realized that she looked a lot prettier in dim light with a glass of cheap money in her hand. The party lasted a decade. So the remedy to the hangover – a very bitter black cup of austerity. Policy makers realized that some of the EU governments (PIIGS) should have been on life support instead of partying it up. The idea behind austerity was to force governments to deleverage. (Have you ever witnessed a drug addict suffering from withdrawal symptoms?)


Who needs to deleverage? The short answer – everybody!


The EU governments, the banking sector, business and individual households.


What is deleveraging? In basic terms, the process of getting rid of the debt on your balance sheet.

Ok, currently there is massive deleveraging going on in the banking sector. We witness this all over Europe. It was most prevalent by the surprisingly strong uptake by the banks of both the LTRO programs. Banks are also getting rid of a lot of their noncore assets; if you have the money, there is some good bargains available. The sale season is in full swing (don’t tell my wife please). This needs to continue, and also speed up; they are running out of time.

Business on the other hand, especially large cap internationals have for all practical reasons already deleveraged. The balance sheets are looking better than was expected before earnings season.

Households are struggling to deleverage. Without a job or significant disposable income this is a very difficult thing to do.

Governments, as we all know, are in serious sh**.

Enters austerity (driven by Germany)


 The main purpose behind this was to force governments to deleverage. So we witness increased taxes and better collection efforts, privatisation of State assets and cutting of public social programs and grants. The voters – especially in southern Europe do not like this. They depend on those handouts for their living standard and lifestyle. The Germans are saying: “Hey, if we can’t have it why should you? Be more productive will you. Why can you work 35-40 hours a week and I must work 45? Why can you retire at 50 and I must wait until I’m 60? If you want to be part of the EU, from now on you will play by our rules…”

Ok, again our question: How do you grow out of recession if you have a diet of austerity?


Answer: You don’t.


More and more EU leaders are embracing the fact that they need a shift in policy towards growth. They need to create jobs. Just have a look at yesterday’s statements coming out of the G8 meetings to get an idea of the change in tone. I personally don’t think this change in tone from the politicians springs from a genuine desire to listen to the people. It springs from the desire to survive. Current incumbents (especially Frau Merkel) must realize that if she does not adapt to what’s happening around her, she will not win another term next year in the German general election. Nice to be able to be a chameleon ‘for the good of the people’.  (Maybe I’m too cynical)

Growth policies:

European governments because of their incredible leverage, have no room to manoeuvre on the fiscal front. Instead they have been concentrating on monetary policy measures in their attempt to calm the markets and provide some reassurance.


So you have the ECB making available about 1 Trillion Euros in 2 LTRO programs. The banks – being starving beggars, gorge themselves on this cheap funding. They are now supposed to do 2 things with this money: Buy government debt and hence help the governments to deleverage, and lend it on to business to stimulate the economy. Nice theory, but there are a few problems with this. The banks don’t buy enough government debt of the governments that really needs the money, because they don’t trust those governments. Banks keep most of the money for themselves in an attempt to adhere to the Basel 3 rules of reserve requirements and survive the stress tests. If banks buy government debt, they buy in “safe havens”, self preservation is a strong motivator, and they also invest in the stock markets – equity rally anybody? So at the end, how much of the LTRO money has found its way to the real economy? Very little. This is why there is no immediate threat of inflation.


So, after all this, what to do? The person that can answer this will win a Nobel Prize.

If the Greek people decide to leave the Euro zone the obvious answer is to prevent contagion at all cost. How to do this? Another LTRO program but with very specific aims and strings attached.


This LTRO (or something similar by another name) must have a few specific priorities:


  • It must strengthen the existing firewalls even more.
  • It must be help banks in France Spain and the periphery countries to deleverage beyond the point of market concern. To this end the repayment terms might have to be extended to say 5 years instead of 3 years.
  • Instead of buying government debt, the aim must be to get as much money as possible to the SME sector. Stimulate the economy at ground level, create as many jobs as possible. Help SME’s to deleverage and have the ability to start hiring again. Give households time to deleverage.


There also must be some measures in place to monitor this.

The net result is that governments might have to be leveraged at a high level for a longer period of time than was planned under the current austerity measures.

Growth and deleveraging then starts at the household level, not the government level. The voters in the UK and Germany might just buy this and we will have to listen to Frau Merkel a little longer.


Investment strategy: (My opinion, NOT ADVICE)

Knowing all this, and even if things miraculously sort themselves out and Greece stay in the Euro zone, where do we place our money?


  • If you are brave enough to be in Europe at the moment, I would look at Multinationals with sound balance sheets that are generating at least 50% of their earnings in the emerging markets of South East Asia and Africa and some of their earnings in North America.
  • If I look at Mutual funds I will look at high yielding corporate debt. Again companies with strong balance sheets are crucial in making the selection.


These are medium term investments. The markets will probably continue the choppy nature until we get some certainty. Current markets are driven by headlines and sentiment, not fundamentals.


  • Another interesting option might be a special opportunity fund that invests in some of the assets that the banks are selling. The asset should be sound even though the seller might be distressed. This option is definitely one on which you should get sound advice before making a commitment.


Ok, please remember that all this is just my opinion. Do not make any investment decisions based on what I have written here. Probably none of this will happen and I will plead temporary insanityJ. Get advice from a qualified and reputable financial advisor before you commit your money to anything.

Last modified on Sunday, 20 May 2012 21:13

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