“If all the economists were laid end to end, they’d never reach a conclusion.” — George Bernard Shaw
Wall Street inarguably had what turned out to be a rather rough week, experiencing two days of a sharp, post-election sell-off that surely put the Bulls on high alert.
However, in spite of the U.S. equity market taking a dive primarily due to fears of a “fiscal cliff” calamity that could drag the U.S. down into a new round of recession, investors might be wise to remember to keep an eye on the troubled eurozone in their rearview mirror.
The Dow Jones Industrial Average (DJIA) shed 2.1% last week, its worst drop, percentage-wise, in over five months. The S&P 500 Index (SPX) suffered even a deeper loss, down 2.4% for the week.
Finally, the Nasdaq (COMP) was the worst of the lot, giving up 2.6%. It has now landed in the red five weeks in a row and ended last week at its lowest point since July.
This downward drift can easily continue on its current trajectory, should investors continue to sell off equities as a preemptive strike against the specter of future tax hikes. The equity market might also give back a big chunk of its YTD profits if weak earnings announcements continue along the lines they have, or if economic data out of Washington seems to lose some of its recent swagger, particularly in the arena of housing and jobs.
What investors should keep an eye on, in addition to all of the above, is the fact that the eurozone remains on seriously shaky ground.
True, Greece has just passed another round of new austerity measures, accomplishing the twin results of satisfying the demands of its creditors and infuriating a large percentage of its populace. And, while the Greek government will now be rewarded with more bailout money, the current configuration of government might not be long for this world.
The bottom line, in terms of Greece, is that they will remain in the eurozone for now, but its economic problems have hardly been solved.
It may be encouraging that the head of the European Central Bank (ECB), Mario Draghi, seems to be having a certain degree of success in moving his agenda forward, famously stated as “doing whatever it takes” to get the eurozone banking system on firmer footing. To this end, a rather innovative bond-buying strategy, known as the Outright Monetary Transactions (OMT), is on the verge of being implemented, in spite of resistance from Germany’s Chancellor Angela Merkel.
The program, once it is actually launched, would seemto be perfectly tailored to Spain, which continues to be mired in recession and a dangerously high unemployment rate. However, Spain’s government seems reluctant to ask for more bailout money, as it is hesitant to have to adhere to any further conditions imposed in exchange for receiving any new funds. Madrid apparently feels, rightly or otherwise, that if further austerity must be imposed on its citizens, then it should be the one to do it, not the ECB.
But the real issue is the fact that, at the moment, the majority of the eurozone, not just Greece or Spain, is either on the edge of or already immersed in recession.
The most recent projections from the European Union’s Autumn are that the eurozone, as a region, is expected to suffer a shrinking GDP, down 0.4%. According to the forecast, a recovery wouldn’t occur until 2014, when the GDP is estimated to rise by 1.4%.
Bottom line: Continuing weak growth out of the eurozone will impact the U.S. economy. The degree that occurs is impossible to predict, though it might already be baked into the equity market, at least to a certain degree.
But probably not much further than that.
What the Periscope Sees
Many of the eurozone bourses have done well this year, some even beating the S&P 500, which was up 9.7% as of Friday.
EWG (MSCI Germany Index Fund), which tracks the performance of the German Equity Market, has gained 15.9%. EZU (MSCI EMU Index Fund), which tracks the performance of the eurozone equity markets, was up 7.06%. EWQ (MSCI France Index Fund), which tracks the performance of the French equity market, was up 7.7%.
All of the above could be considered for a shorting opportunity, providing potential profits in the event that the eurozone continues to deteriorate.
Full disclosure: The author does not personally hold any of the ETFs mentioned in this week’s “What the Periscope Sees.”
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