As we are all too aware, stockmarket volatility and economic issues remain centre-stage and virtually dominate the news at the moment. Each day, the issues seem to morph and various “talking-heads” suggest different solutions. I am reminded of the description of the Northern Ireland troubles which said “if you understand the solution to this, somebody hasn’t explained the problem to you properly!”
We can all see the problem in the Eurozone and with Greece in particular; it is just that the solution remains tantalisingly vague. Those of us with a Classical bent may recall that Tantalus had annoyed the Gods and was punished to suffer perpetual thirst and hunger by standing in a river which ebbed away as he bent down to drink and a bunch of grapes above him moved out of reach as he tried to eat them. As private individuals, each time we feel we have a grasp of the situation it somehow changes; usually with the addition of several zeros to take us into the language of zillions we used as children; as a proxy for infinity.
In today’s Global village with instant communication and technology, Greta Garbo’s wish “to be alone” is more difficult to achieve – we are now all connected. Hence, what happens in the Eurozone impacts Wall Street and elsewhere; as well as vice versa. Speaking generally, we as individuals have borrowed too much money without thinking through how we will repay it and this certainly applies to many Sovereign countries. Timo Hannay once said “the future is a foreign country” but it is one we all have to visit as the stark reality of balancing the books looms upon us. We can perhaps describe this as The Greek Moment which has now rudely arrived.
It is obvious to everyone that Greece has borrowed far too much in a hedonistic combination of rampant consumerism coupled with a laissez faire tax collection policy. The apparent easy solution is to cut them adrift and adopt the jungle mantra of the survival of the fittest. The problem is the inter-connectedness mentioned above. Most of the massive Greek debt has been lent by European banks; many of whom could be financially holed below the waterline if this were written off. This in turn would entail further bank bailouts on an enormous scale and the whole Eurozone pack of cards could come tumbling down.
When the Euro was formed I certainly thought that brains far bigger than mine had planned what to do if it all went to pot. We now realise this was not the case; which equates to a wealthy marriage of convenience without a pre-nuptial. This apparently schoolboy error arose because a Eurozone break up was considered impossible and unthinkable. So, will the unthinkable happen? Regrettably, the continuing vacuum of political leadership in the Eurozone has created uncertainty and panic which has been seized on by the markets.
A workable solution in two or three months simply won’t do when the stockmarkets work in minutes and seconds. The politicians need to get ahead of the game, then rapidly agree and implement a radical and substantial package to put the Euro back on track towards robust good health – a series of sticking plasters won’t do; this needs major surgery. Germany can bleat as much as it likes about the unfairness of it all, but it will be affected as badly as the rest of us if the patient doesn’t recover.
The German on the equivalent of the Clapham omnibus might well ask why they should bail out the profligate Greeks. Well, there is a valid reason. An independent Sovereign nation (such as the UK) has three main weapons to tackle a faltering economy – devaluation, dropping interest rates and a massive public spending policy to create jobs and economic output.
Unfortunately, those seventeen countries in the Euro do not have the first two options – they cannot independently vary interest rates or devalue. Since the Drachma and Deutschmark became extinct, all Euro countries have the same interest rate and parity of currency. If currency union had not occurred, the Drachma would have collapsed and the Deutschmark would have risen spectacularly. This means German exports would have been vastly more expensive and, as the Eurozone is its biggest trading partner by far, the indirect benefit to the German economy has been enormous.
Unfortunately, Angela Merkel and her coalition have been playing to the populist gallery, promoting an almost xenophobic view that Greece (and for that matter other weak economies such as Ireland and Portugal) should be left to sort out their own problems. This has come back to haunt them as the required massive German support to stabilise the Euro is less popular than ever at home and politicians don’t want to vote themselves out of office.
So, where do we go from here? The latest three-pronged proposition would appear to have potential. Firstly, a re-capitalisation of European banks; either via their own fund raising or European Central Bank (ECB) loans. Secondly, a massive increase in the size of the European Financial Stability Fund (EFSF); effectively underwritten by all Eurozone countries (and including the UK). Thirdly, a managed default for Greece whilst still allowing it to remain within the Eurozone. This could perhaps take the form of either ring fencing her debt or substantially revising the repayment term and interest rate of her debts; coupled with a substantial capital write-down. This will require a united front from all Eurozone countries and an acceptance that some sharing of the pain by everyone is inevitable.
It is early days yet and there remains much manoeuvring and even bullying to implement something along these lines. This will happen; we just don’t know in what shape and in what timescale. At last it seems politicians have woken up to the gravity of the situation and that serious action is needed now – that tin can simply cannot be kicked down the street any more.
Will the World end tomorrow or later this year? I seriously doubt it. Ultimately, the politicians will fudge a workable solution and some sort of stability will once again reign. It is likely that volatility and uncertainty will remain the order of the day for some months yet. However, those very same conditions create buying opportunities as periodic panic selling does not discriminate between the good, bad and ugly. Nimble investment managers can take advantage of this; both with tactical adjustments to a portfolio and maintaining a longer term strategic outlook. The short term “chatter” should not be allowed to weigh too heavily when compared to the good economic news that is still out there and yet too easily drowned out into a deafening silence.
Time in the markets rather than timing the markets still remains a sound mantra. Let us not forget that virtually all our clients will have well diversified portfolios with “shock absorber” characteristics that protect them from the worst of market falls. Portfolio managers will be constantly assessing the individual components in those portfolios and making adjustments where appropriate. In the longer term journey of an investment strategy, a gentle nudge (rather then a violent swing) on the tiller is the best way forward; with an understandable but emotional knee jerk reaction to the latest bit of gossip or news best avoided. Churchill may have said “democracy is the least worst form of Government” and we should perhaps remember that the Euro is the least worst form of currency for the Eurozone!
Peter Osborne
Investment Director