Posts Tagged 'RIO'

Cyprus An Excuse Not A Reason

I have been asked so many times what will derail the market and each time my answer has been the same “nothing we currently know about.”  The next question is the most important: how much is this exogenous shock worth to the market and where will it go from here?  Better lucky than smart as I noted that I lowered exposure, partially because of the move in the market YTD but largely due to vacation last week. I feel I have time to buy.  Right now we are dealing with the emotional and unprecedented impact of taxing insured depositors.   To me the issue is not whether other countries do this – they won’t – but whether the ECB can convince Spanish, Italian, etc., depositors, that they will not suffer a similar fate.  Frankly, but for the fact that the unintended consequence of this action will be to tighten credit as depositors likely pull funds from other banks in more troubled regions, the Euro should arguably be stronger.  The ECB, complicit in this move although not the depth of it, has drawn the line with Cyprus, a country of 1 million that accounts for a half percent of EU GDP where allegedly half the bank deposits are from the less upright Russians (perhaps an oxymoron).  More importantly, given that the size of the needed bailout was almost at parity to the country’s GDP, and the bank debt more than 8X GDP according to a World Bank report, there would be no likelihood of repayment.  Arguably, this should strengthen the Euro since it is finally showing the limits of what Germany/ECB will do but of course isn’t.   It will make US banks more attractive but won’t near term.

So what now?  It seems to me that the next move is up to Draghi and he will have to lower rates to offset the tightening caused by this incident.  US Treasuries will catch a bid as other suspect Eurozone countries look for a safe haven and US banks may benefit to a certain extent.  However, the stocks won’t today as that nagging and unjustified feeling of contagion momentarily takes hold.

Bottom line: We were due for a 2-5% correction and this is as good a catalyst as any although the actual impact on global growth is non-existent thus creating a buying opportunity.  However, my larger concern, one that is growing, is China.  While they have the funds to paper over any bailout issues, their bad debt dwarfs that of any other regions   Local government loans equate to more than $1.5 trillion.  The faltering Chinese steel industry has bank loans of $400 billion  in an industry that China’s prior regime promised to downsize but instead production has grown.  And it goes on.  China won’t be recovering any time soon and the impact on commodities will continue.  I have no plans to increase exposure at this point but am also not sure this will be a big downside catalyst.  I am, however, adding to my short in iron ore.


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