Europe Whispers “Crisis” While the Market Continues Screaming

Jason Kaspar, Contributing Writer
Activist Post

Last year the Europe Union (and the euro) teetered on the verge of collapse when the Greek financial crisis strained the viability of the EU construct. This year, as other EU countries domino in similar fashion, no one seems to care – certainly not the markets. Portugal’s government collapsed last Friday, and Standard and Poor has downgraded Portugal twice in the last week from A- to BBB-.  S&P then proceeded to cut Greece’s rating further from BB+ to BB-. Yet, defying all reason, the markets have gone up.

So, why is the market reacting positively to this news?

Well, in the perverse logic of a shortsighted market, debt spending is good.  Going into the European crises last year, there was no backstop for a European country in trouble.  The provisions for sovereign collapse were unclear and hotly debated.  Would Greece be kicked out of the Eurozone?  What would happen to the Euro?  Would bondholders suffer losses? How would this impact banks?The solution? Europe quickly embraced the troubled American model, socializing risk, instituting multiple backstops, and implementing enough cross guarantees to ensure that sorting through them would be more difficult than, say, trying to figure out how may countries the US is at war with.


The primary organism responsible for this socialist backstopping is the European Financial Stability Fund, or EFSF. The EFSF has the authority to issue $440 billion in additional bonds backed by European Area Member States, or EAMS, which means that Greece is lending to Portugal through the EFSF, and Portugal is lending to Greece. The credit rating agencies have (naturally) given this bailout vehicle their highest rating, AAA. Go figure. The system represents nothing more than a European version of a collateralized debt obligation (CDO) or collateralized loan obligation (CLO). You may remember, CDOs and CLOs helped ruin the financial system in 2008.  To certain market participants, garbage intermingling with trash with a spice of waste produces a sweet European fragrance.

Seduced by this “sweet” aroma, when a government like Portugal fails and a bailout is imminent, the market perceives it as a non-event at worst and as a positive at best, because CDOs and CLOs allow leverage to be piled upon leverage. When the economy is doing well, the prospect of leverage actually enhances returns.  The EFSF offers a Euro version of quantitative easing, providing a tailwind for the market when the market is going up.

The European effort does not actually fix the system, and in true Americano style, it is a form of kicking the can down the road (Americans may not be great at soccer, but we are elite can-kickers). For this reason, the European debt crisis continues unabated, passing from one country to the next. There will be a day of reckoning; the question is the catalyst, of which there are many possibilities. Spain, by itself, could crash the entire fiesta, straining the best laid bailout plans based on pure size.  The country I am particularly watching is Ireland.  There has been chatter in Ireland about default on some of its bonds, which has the potential to start a chain reaction across Europe.  It changes the game theory scenario.  Default seems inevitable for many of the EU countries, but it can be pushed off at the expense of citizens for years.  If Ireland defaults, Greece and Portugal should very quickly come to the conclusion that they can default also, bringing down the pyramid of leverage and instigating the European version of America circa 2008.  Because the euro structure is much worse than the dollar, such a crisis also likely would create a currency panic.

The day is coming, but until it does, overweight market participants plump with profits will enjoy skinny-dipping with the false protection of a full tide.  Someday the tide will go out, and it will be a very ugly sight indeed.

Jason Kaspar is the Chief Investment Officer for Ark Fund Capital Management, focusing on investment and portfolio management. This article first appeared on Gold Shark.

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Dollar Quietly Losing Status as Safe Haven During Crisis

Eric Blair
Activist Post

It used to be that during times of perceived global crisis institutional investors rushed into the dollar as a safe haven. U.S. Treasury bonds were once considered as good as gold when uncertainty gripped the world. However, it now seems that the weight of fundamentals have finally surpassed prevailing perceptions where the dollar is no longer king of crisis investing.

In October, 2010, the dollar reached a 5-month low against the Euro during the fierce debate leading up to the $600 billion quantitative easing by the Fed.  Following the final passage of QE2 in early November, the mainstream media hyped it as victory and promptly pivoted to begin pounding out headlines about the Eurozone debt crisis.  Almost immediately the dollar turned the corner against the Euro.

2-month Dollar/Euro Chart 2010

It was easy to predict such a turnaround because perception at the time was clearly driving the currencies, while fundamentals were largely ignored.  As I pointed out in October:

The fundamentals suggest that it (the dollar) should be finished, but just as the world is about to declare it dead, miraculously a global storyline seems to emerge just when needed and foreign investors rush back in for 'safety.'

And, indeed, investors flocked back into the dollar on the hyping of the Eurozone debt crisis 2.0.  However, this cycle only lasted until the first week of January, 2011 where talk of the Euro crisis was noticeably absent from the headlines, and America's financial woes once again took center stage.

Now, as the world is gripped by authentic crises with mass civil unrest in the Arab world, and the devastating earthquake/tsunami in Japan, large institutional investors are continuing to abandon the traditional safe-haven dollar.

Bloomberg reported last week that "Bill Gross, who runs the world’s biggest bond fund at Pacific Investment Management Co., eliminated government-related debt from his flagship fund last month as the U.S. projected record budget deficits."

Despite the global turmoil, the dollar hovers near its 52-week low on the Dollar Index.  Perhaps the timing of these crises coinciding with American lawmakers threatening a government shutdown over its escalating debt has deterred investors from their normal behavior.  Instead we are seeing far more money moving into commodities, as currencies and government debt are being increasingly exposed as unreliable.

The world seems to be finally realizing that commodities such as food staples and oil are the genuine currency of our society, and the only true safe haven during global uncertainty.  In fact, it appears that the fiat U.S. dollar is actually measured by oil (and other vital commodities), not the other way around.  As tangible and necessary resources, oil and food are now kings of the crisis.

RELATED by Eric Blair:
Economy Hit with the Ultimate Smokescreen: Biflation
5 Collapse-Proof Investments with Tangible Fundamentals




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