You only give me your funny paper
And in the middle of negotiations
You break down
"You Never Give Me Your Money" by The Beatles
Listen to the YouTube video:
Markets were able to shrug off last Novembers debt troubles in Dubai, when their rich uncle Abu Dhabi came to their rescue. And for the last several months they seemed willing to mostly ignore the debt problems of Greece, but this week that tune has changed. We have seen a sharp pullback in all risk assets as investors fled all components of the "reflation" trade; stocks, commodities, gold, oil, and higher risk debt. In fact this was one of the most synchronized declines since Sept. '08.
The current crisis in Greece is seen as just the tip of the PIIGS tail. For those of you not familiar with the PIIGS, they are the opposite of the BRIC's. The BRIC's are Brazil, Russia, India, and China, while the PIIGS are Portugal, Italy, Ireland, Greece, and Spain. The term was coined to easily name the five worst economies in Europe. The following is each countries Deficit-to-GDP ratio:
Portugal 9.3%
Italy 5.4%
Ireland 11.2%
Greece 12.7%
Spain 11.5%
Now it can be argued that not all of these countries are a basket case, that they will be able to grow, tax, and cut their way out of trouble. That may be true, but it won't be easy. The bond vigilantes are forcing the governments of these countries to make some tough choices. In the case of Greece they have driven Greece's interest rates to record highs versus the German Bund, and in response Greece has offered a plan to cut it's deficit to only 3% by 2012. Easier said then done. Greece's public sector work force, like that of most of Europe, is heavily unionized. In fact, in the first of a planned series of strikes, the Greek tax collectors didn't show up for work.
Now I think it is wrong to single out the PIIGS, after all the other white meat has a lot going for it (umm Bacon), and they actually have a lot of company in the high Debt-to-GDP camp.
United Kingdom 14%
United States 10.6%
The choice that all of these countries have is rather unpalatable: cut proactively and take the risk of killing your fragile economic recovery and increasing social unrest; or have the cuts forced upon you by a hostile bond market in the midst of a financial crisis.
In summary, most sovereign nations aggressively borrowed several trillion dollars to bail out their private sector banks. The debt did not go away, it was simply transferred from the private sector to the public sector, and the holders of that public sector debt are getting a bit worried about everyones ability to repay. In other words, "You never give me your money, you only give me your funny paper".
Investment Considerations
Since late last summer nearly all the asset categories we follow have been near their maximum bullish levels (i.e. fully invested), but a few weeks ago we started to move to neutral positions in some fixed income and international areas, and subsequently increasing our cash holdings. This weeks action has continued to move many other assets closer to neutral, or outright negative, and if the trend continues over the next several days we would expect to see an increase in cash levels.
As always, be careful out there,
Chris Wiles
This article contains the current opinions of the author but not necessarily those of the Rockhaven Capital Management. The author’s opinions are subject to change without notice. This article is distributed for informational purposes only. Forecasts, estimates, and certain information contained herein are based upon proprietary research and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed.
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