Market Selloff Might Pause Despite EU Debt Crisis

 

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.

The markets should soon find support on their current selloff, but this will only be temporary.  Europe's debt problems, which are at the epicenter of the current financial crisis, are not going to go away, they are only going to get worse until some realistic solution is found.

Stocks in Europe have been selling off for days and so have the euro and gold and silver. Only on Thursday did the U.S. markets start to drop significantly. Gold (GLD) and silver (SLV) managed to rally off deeply oversold conditions after reaching chart support around their lows from late last year. Even the euro (FXE) was trying to rally after getting close to its low from January. The major U.S. market indices are all approaching their 200-day moving averages (the Russell 2000 has already reached it). Some bounce should be expected at or just above those levels. Any upward movement should be considered to be a just a relief rally for now.

Once again the debt crisis in Europe has reared its ugly head. Greece is going to have new elections in June and an anti-bailout party is expected to win. Its credit rating was downgraded to CCC by Fitch on Thursday. An exit from the euro is now being seriously discussed in the halls of European power. At the same time, interest rates are rising in Spain and Italy to the levels where the Greek problem initially began.

Spanish 10-year government yields were as high as 6.38% this morning. The same Italian interest rates had reached just above 6.00% yesterday. Italy's rates were over 7.00% from last November to early January and Spain's were close to that level in November. The ECB then began a massive effort funded with money printing to drive them back down. It worked for a while, but as soon as the printing presses are paused, the market takes right back over.

The more serious problem is with the European banking system itself. Moody's downgraded 16 Spanish banks Thursday night and Spain had to partially nationalize Bankia last week. There was a run on Bankia Thursday and massive amounts of funds have been withdrawn from the entire Greek banking system. Contagion spreading to the major banks in the rest of the EU is a real danger. The LTRO (Long-Term Refinancing Operation) programs of the ECB have encouraged them to load up on the government debt of the failing peripheral countries. Many of the banks that did so were barely solvent as is.

More bailout programs from the central banks should be expected, but they aren't likely to work either. The real problems are with the non-functional economies. Spain is still building empty houses that no one buys and the Spanish banks are funding this activity.  Adding more debt to the problem is only going to make matters worse. Printing money to pay for that debt takes the problem to an even higher level. It all has to give at some point and it looks like the new few months will be one of crisis. 

Disclosure: None

Daryl Montgomery
Author: "Inflation Investing - A Guide for the 2010s"
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. There is no intention to endorse the purchase or sale of any security.


 

Remerging EU Debt Crisis in Spain Will Damage Stocks

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.

The yield on Spanish 10-year government debt was as high as 6.16% on Monday. Credit default swaps on Spanish debt hit a record even though the peak yield on the 10-year was 6.70% on November 25, 2011. After a big selloff on Friday, stocks were rallying on Monday despite the new emerging crisis in Europe.

The 6% yield level is watched closely because when rates went over that level in Greece, the Greek debt crisis emerged. Spanish 10-year yields were over 6% three times last year. Prior to last November they reached 6.32% on July 8, 2011 and 6.28% on August 4, 2011. The ECB (European Central Bank) has intervened directly in bond markets under its Securities Market Program (SMP) to hold down interest rates in the peripheral countries. At least one Spanish official has called for a renewal of these efforts.

The ECB also established the European Financial Stability Facility (EFSF) and the European Financial Stabilisation Mechanism (EFSM). Massive money-pumping operations have also been conducted through the two LTROs (Long-Term Refinancing Operations), one for $645 billion and a second for $713 billion.  The massive liquidity coming out of Europe has led to the recent global market rally. This will be just one of its unintended consequences. Later on we will be experiencing a large uptick in consumer price inflation as another.

While the inflation caused by the ECB is likely to last, the lower interest rates aren't. Spain has now broken above the 6% line in the sand four times. Portugal has never even gotten down to that level. Its 10-year governments were yielding 12.7% on Monday. So far they have peaked at 17.4% on January 30th. Italian 10-year governments have also yielded over 7% last November and this January, but were driven back down to below 5%. They are now rising rapidly again and heading toward 6%.

European stock markets were damaged significantly on Friday and the U.S. markets to a lesser degree. Despite the ongoing bad news markets across the pond were rallying today. And why shouldn't they. Another bailout (and another bailout and another bailout and another bailout and even another bailout) is expected. So far, even with the massive amounts of printed money thrown at the bond markets in the peripheral countries, the debt problems keep emerging . And now the global stock market rally looks like it is beginning to fray around the edges.


Disclosure: None

Daryl Montgomery
Author: "Inflation Investing - A Guide for the 2010s"
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. There is no intention to endorse the purchase or sale of any security.

The Risks to the Global Financial System in 2012

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.   
As 2012 begins, markets are rallying as they did at the beginning of 2011 -- a year when the S&P 500 closed flat after many huge moves up and down. The problems in Europe that rattled markets in 2011 have not been resolved and new problems are or will be emerging in China and Japan. At the very least, investors should expect another rocky ride in the upcoming year.

The debt crisis in the EU is far from over. It is simply being momentarily contained by another short-term solution that will hold things together for a while until the crisis erupts again. The mid-December LTRO (long term purchase operations) announced by the ECB excited the markets as any money-printing scheme would. This new "solution" to the debt crisis is essentially an attempt to handle a problem of too much debt with more debt. Already close-to-insolvent EU banks are able to hold fewer assets for collateral in exchange for cheap funding from the ECB, which can in turn be used to buy questionable sovereign debt from the PIIGS. While this will keep Italy, Spain, Portugal and Ireland financially afloat for a longer period of time, it may collapse troubled EU banks sooner (the real epicenter of the debt crisis). 

Half way across the globe, problems are emerging in China. It is estimated that there are between 10 and 65 million empty housing units in the country that investors have purchased with the hope of selling at higher prices. There are in fact entire "ghost districts" there that are filled with new buildings and no residents. Prices have become so high that by last spring the typical Beijing resident would have to have worked 36 years to pay for an average-priced home. The pressure appears to be coming off though with new home prices dropping 35% in November. Beijing builders still have 22 months of unsold inventory and Shanghai builders 21 months. In the peripheral areas, existing home sales have plummeted -- down 50% year on year in Shenzhen, 57% in Tianjin, and 79% in Changsha. Investors should take note that the Chinese real estate bubble is far worse than the U.S. one that brought the global financial system to its knees at the end of 2008.

Twenty years ago, Japan had a massive real estate bubble and it is possible that prices have finally bottomed there, but that doesn't mean that they are ready to go up. Japan has had two decades of economic stagnation (and is heading toward a third, if it is lucky) because of the collapse of its real estate and stock market bubbles. Massive borrowing by the government has prevented the situation from getting worse. The debt to GDP ratio in Japan is now estimated to be 229% (well above the just over 100% in the U.S.).  More people are leaving the workforce there than entering it and this bodes ill for tax receipts. The aging population is using up its savings instead of adding to them. This is a potentially serious problem because the massive debt the Japanese government has incurred has been funded mostly internally by the savings of the Japanese people. A lot of old debt has to be rolled over in 2012 and additional debt is still being incurred. Where the money will come from is not clear.

None of the problems that could strain the global financial system originated in 2011. They have been building up for years and even decades. The first major blow up was the Credit Crisis in 2008. In every case, that problem was "solved" by more debt and money printing. This approach has of course only postponed the inevitable since taking on more debt only creates a bigger debt problem down the road and you can't create something of value out of thin air by printing money (although you will ultimately create a lot of inflation). The markets have already spent most of 2011 in an unstable state. It looks like continuing and even bigger crises await investors in 2012.
Disclosure: None
Daryl Montgomery
Author: "Inflation Investing - A Guide for the 2010s"
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. There is no intention to endorse the purchase or sale of any security