The Euro Crisis Has Only Just Begun?
That’s the message coming out of a prominent European hedge fund manager. Jamil Baz of GLG Partners old investors at a conference yesterday that the crisis could last another 15-20 years. Some of the key insights (via Reuters):
“This crisis has not even started. It will take an extremely long time to reach its peak velocity, and by a long time I mean at least 15-20 years,” Baz, who co-manages GLG’s Atlas Macro fund, told delegates on Tuesday.
“The economic impact of this crisis will be devastating,” he added. “Risky assets will look very ugly as a result.”
He estimates that the implied equity risk premium – the extra return the stock market must provide over the return on government bonds to compensate for market risk – was likely to be less than 3 percent, below current consensus.
“This means, believe it or not, that equities are still expensive (relative) to bonds.”
However, he said that corporate debt was being priced far more cheaply in bond markets than in equity markets.
“This is as close as you can come to macro arbitrage,” he said. “Corporate debt is by far cheaper than equities.”
Source: Reuters
Cullen Roche
Mr. Roche is the Founder of Orcam Financial Group, LLC. Orcam is a financial services firm offering research, private advisory, institutional consulting and educational services.
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30 Comments
i agree.
Germany is about to roll over. a recession in europes biggest economy could add a whole new dynamic to the picture.
Quite close to Rosenberg. Rosenberg,though, gives much shorter time for the crisis to culminate (Thanksgiving?)
Intermediate and long-term corporate bonds have been a terrific investment for the past 5 years, and will continue to be a great way to diversify and offset some of your equity risk in the future. As Cullen has shown in another post, inflation is low, and as the Fed said, is likely to go lower. The 5 yr annualized return from Vanguard long-term corporate bond fund VWESX is 10.08%, the one yr is 17.4%, and 5.58% YTD. I still like VWESX, LQD, and VCLT.
Get em Larry- Doing Great!
Keep it up…once your on the right side of the market your job is to stay there.
Good stuff my friend!
yeah.
As I said back in March and April when SPY was near highs, if you were bullish long term why not buying a basket of corporate bonds distributed between HY and IG to hedge risk and hold to maturity?
I guess people was too greedy expecting equity assets appreciation. People too often remembers investment in the end is about yields and return of assets, that’s what ‘back ups’ price (as well as future expectations on growth). Anything else is just a remix of Tulip bubble.
P.S: Commodities also have a returns on assets depending on demand.
It’s hard to believe that the Euro crisis could reach its endgame as early as Thanksgiving this year. There are too many tools that the ECB, ESM, IMF, etc. can use to postpone the seemingly inevitable denouement. But 15 yrs seems too long to me. I’ll guess 18 to 36 months before it goes into an endgame.
Of course it is just the start. Germany is already experiencing a decline in tax revenue. Plus, the German industry has the lowest order intake since the beginning of 2009 – which was in the middle of the crisis (well, of one of the several crisis). So, Germany must brace herself for the coming hurricane.
This is yet another reason why it is plain stupid to demand from Germany to take over even more debt of other countries and their banks via eruo-bonds or whatever indirect or direct measure. This would raise the refinancing costs for Germany (which are already up ~40bp since the beginning of this month) dramatically, so Germany would be taken down with the GIPSIFs even faster.
And if Germany can’t fund their bills anymore, who will be the next donor of credit the GIPSIFs will approach? The ECB? Printing money increases debt and thus the problems, it doesn’t solve them.
A Ger-Exit makes a lot of sense. Then the Euro can become a Drachma.
Isn’t the current slowdown somewhat self-induced through austerity? When more pro-growth policies are implemented Europe will move out of recession. This should alleviate some stress and allow more time to forge a fiscal union…if nobody goes off the deep end in the meantime.
If events don’t overtake the politicians and force a break-up, we know the only path for the Eurocracy is to attempt to forge a fiscal union. That will take years. Tough to see how the game can be kept going for that long.
I’ve popped up here a few times to suggest it won’t be the politicians who finally decide the fate of the euro, it will be the people of Europe. A fiscal union would involve major loss of national sovereignty and thus require new treaties to be put to referendum. That will be the moment of truth.
There is no way – absolutely none – that Europeans going through what is, for most, a moderate downturn, could be persuaded to give up democratic rights won through generations of struggle just to keep the Greeks on board. The idea, when considered for more than a moment, is utterly absurd. Most Europeans were not even asked if they wanted to join the euro (no – not even the Germans). Sure, now that they have it they’d far rather keep it, but being asked to give up a huge part of their sovereign and democratic rights to save the Greeks and the Irish? Good luck to the politicians arguing that one.
The only way Europeans will be persuaded to cede their taxing and spending powers to Brussels, to essentially give up their right to set their own tax and spending policy, would be if a monumental crisis – a major depression or war – were to engulf the region and Europeans were so afraid that they saw no other alternative but total union. They would have to believe that staying within the euro in those circumstances would be preferable to leaving, devaluing, and going it alone.
Because I believe that scenario is not remotely credible, I think it’s a certainty that the union will break. And once one goes, that break will be like a wide-open cabin door at thirty-thousand feet – others will follow. I see that the FT’s Martin Wolf, long a euro-pragmatist if not a near-optimist, has finally come to the same view.
http://www.businessinsider.com/martin-wolf-federal-union-europe-doomed-2012-6
Thanks for the comments and the post – good read.
NaE
That’s pretty much the way I see it as well. Here’s another way to look at the problem as well:
The Eurocrisis is about 2 years old, and how many of the original countries’ economies have been fixed in a manner that gives us confidence that they will have no more problems? None. And on top of that, there are now more countries today in trouble than there were at the beginning of the problem. Everytime a “solution” is proposed, it turns out to be inadequate and that the problem is in fact bigger than was originally stated.
At that pace we are many years away from a true solution.
Here is a very in-depth and revealing report about the Euro …
http://mises.org/books/bagus_tragedy_of_euro.pdf
Read my comment in the previous post. I am TIRED of saying it, people continue to underestimate how bad the European crisis is. It is A LOT BIGGER than subprime and we have not seeing the worse of it, even if we assume an OPTIMAL response from now on, which most likely will not be case.
But, but, but…the dividend yield on the SPX is higher than the 10 yr yield…
I want my money back!!!
It sounds like you don’t think much about sell-side analysts and their perpetual bullishness based on sound research and models like the FED model.
Why is that? Is it because they are constantly wrong and following their well-debunked models is the quickest way to lose client money?
This might be too opinionated but generally, yes, I have some healthy contempt for both the sell and long only buy side – there seems to be a lot of intellectual laziness that pervades both. I think both generally fail to add value in a way that is commensurate with their remuneration. Finance is a lot like the medical profession – the promise of $$ and power result in a lot of poor personalities in the profession for the wrong reasons – both are meat grinders for those that truly add value – e only way you put yourself through it to get to that point is because it is your passion and if you weren’t doing it you’d live in a shack in the woods or simply be a barista in a coffee shop rather than working some cubicle job elsewhere for multiplies of the pay…
Hah! Nice post B.Ferro.
But do you realize that’s precisely the goal of sell side and long-only buy? To generate rents and incomes from inflation and sucking the real economy life?
It was ‘designed’ or ‘evolved’ to be that way, without these goals they would be pretty much pointless (in a ‘perfect financial world’ these sort of institutions importance would be near zero).
The news is so negatively my knee jerk reaction is to take the other side.
Europe ….
1. Still the most highly educated region in the world with societies that are general cohesive and orderly. They have lots of young people willing to work.
2. Home to many resources — natural, economic, people, centrally located — etc.
3. Have a history of accepting the kind of massive government intervention that might be needed. For example, Europe probably could write down its massive government debt and nationalize the banks to recapitalize them.
Some countries will do better than others — Scandaniavian and eastern European countries, for example.
Johnny-
Mine too. I read the first 10 comments and the group think had all the fish drowning. I was going to post something….but when I thought about taking the other side…..I couldn’t come up with anything but Europe is a beautiful place I’ll be visiting next week.
But..I’ll share some statistics which B Ferro hates and he’ll probably call me and tell me this stuff is useless.
Disclaimer: Not my work-
EURUSD analogs with the highest correlation are 1985, 1993, 1984, and 2000. 1 month, 3 months and 6 months have the Euro Ripping right here. up 9%, 6% and 11% 1, 3 and 6 months out.(3/20/1985..91.50% correlation) of the 17 samples with the highest correlation (15 are up 2 are down).
Now…in 1984 it went up then cratered…but in 1985 this was the bottom. 1984 has the highest correlation(1/13/1984).
The only reason why I’d share this is because…..I’m not doing anything with it.
. In other words…you can have this good piece of news on the EURUSD because I don’t know how it fits…unless I go check to see what sentiment is on this trade. We’ll see.
OK, VII, i’ll ask a dumb question…….since the euro only came into existence in 1999, how is the data on EURUSD calculated prior to that time? relative currency weighting?
second question: correlations have to be based on similar conditions. What were the conditions in 85, 93, 84, and 2000 that were similar to the endgame conditions we are seeing today?
I’m going with Octavio on this one………
best, rhp
GREAT Question rhp, I just e-mailed the Quantative Analyst to pull the components of how the data is calculated.
rhp-
“….for EUR/USD prior to 1/1/99 we will use synthetic EUR data….The data you see on ticker THEOEUR CURNCY HP was calculated by Bloomberg Back to 1988 using the calculations you can see on DOC#2021595 Bloomberg Was only able to calculate the synthetic EUR data back to 1988 as we have data on legacy Portuguese Escudo back to 1988 only. The data you see on EURCURNCYHP prior to 1988 to the start in 1975 is contributed data by teh Federal Reserve Bank as the Fed wil lhave access to data prior to 1988″
In a nut shell it’s an adjusted series from Bloomberg which is fairly standard.
But that was the response-…reminds me of all the tests I’ve taken. Sometimes I just know the answer and have no clue what’s behind it. It’s an asset I posses and shows up as a liability in many cases.
B Ferro, just found a great quote for you to use when anyone questions your calls……… “Strong convictions, lightly held. Anything else is a death wish.” thanks to Mercenary Trader!
best,
rhp
Awesome quote. Those guys are great pragmatic traders.
Good call to BJM on the temporary bottom, but I think the price action here is what now needs to be listened to…
If this selling holds tomorrow, given the way it looks at such important resistance now on the week, I’m not sure how the flood gates haven’t been opened.
We will see.
Surprise, surprise !!!!
The short gold was hard to hold at some point but given the inaction of Ben looks like was a good short position. Selling Spain’s at current prices (from 6000) wasn’t a bad decision either.
Europe is broken and because it’s broken is dangerous. But it could be a ‘solid’ buy in months or the next year. The problem is the lack of resolution, if this does not change the last thing we will have to worry about in a couple years in Europe is the stock market.
“However, he said that corporate debt was being priced far more cheaply in bond markets than in equity markets.”
He is correct. Favor non fin corporate bonds from quality geographically issuers with good liquidity metrics.
http://pragcap.com/de-leveraging-bad-for-equities-but-good-for-credit
Deleveraging is bad for equities but good for credit. I can only agree with Jamil Baz.
Lets look at this as a top down approach. Perhaps we should look at Germany as a bank lending whose exposure is all of Europe. In this sense I would say Germany has had a poor risk management system and will take losses. WIll it wipe out its depositors??? I would say there is a good chance that the equity in Germany will take a substantial hit. If it is greater than 100% of German equity then the next big bank is exposed…and tha is the US which will already be weakened by the origin of the same losses that took down Germany.
So where does Germany or the US come off lecturing anyone concerning credit quality exposure?
this is the most ridiculous opinion i’ve heard yet. 15 years? Social instability will test that timetable well ahead of 15 months.