Here's Why Southern Europe Will Not Be Allowed to Default

by: Cliff Wachtel

A recent commentator on my article PIIGS Default Fears Becoming Self-Fulfilling Prophecy advised:

CHILL….Portugal’s GDP is the size of Kentucky and Greece’s is
the size of Connecticut…..

As we guys never tire of saying, size doesn’t always matter.

One Default To Rule Them All

Hate to sound like a broken record, but the following point really, really bears repeating:

Lehman Brothers (OTC:LEHMQ) was a lot smaller than either Portugal or Greece, but it was enough to shake confidence and freeze up credit markets. Greece needs at least 30 bln euros just to roll over maturing debt between April and May. Any trouble on that and credit costs for the rest of the PIIGS will spike, if they can sell bonds at all – and may well send them into default as well, likely casting doubt on the stability of the EU at least. Hard to imagine financial markets not crashing.

Hope I’m wrong, but this problem is very close to sending us back to the fall of 2008-March 2009 era.

The Likely Ambivalent Ending

My prediction – some kind of bailout or guarantee of PIIGS block bonds – just to buy time to figure out what to do in order to keep the financial system (global) from suffering another credit seizure.

Remember, the UK, Japan, and US also need to sell bonds pretty much weekly just to keep going. All have received credit downgrade warnings. At minimum, their borrowing costs would skyrocket, meaning higher taxes and spending cuts that would further crimp recovery for years to come.

In sum, snowball effect, domino effect, you get it, right?

Yes, the bailout only buys us time. The alternative is risk watching global credit markets seize up, economies go into cardiac arrest, and die on the table. A collapse deferred is still the better alternative.

The EU is not rushing to solve this because the leaders of the northern, relatively solid economies would be committing political suicide by telling their electorates to pay for the PIIGS misdeeds. They will wait for the rest of the world to ‘volunteer’ to share the pain, because if they don’t, they will likely be sucked down with the EU as a credit market seizure or rate spike spreads. That way Northern European leaders can face their electorates honorably (?) saying they got the whole world to share the pain and there was no choice in order to avoid collapse,etc.

What do you think they’re REALLY talking about at the G7 meeting in the remote Canadian town of Iqaluit? Ice fishing?

This millennium is getting worse by the decade.

Ramifications For Investors

Until the Euro debt mess looks like it’s stabilizing, the current downtrend in risk assets is alive and well, barring short term reaction bounces.

Short stocks, commodities, risk currencies, or their related ETFs, like: FXA, FXB, FXC, FXE, FXF, FXEN, BNZ, CYB, GLD, CNY, USO, DUG, DBV, ICI, CEW, SLV, OIL, SPY, SDS, QQQQ, DIA, EWC.

Long USD, Yen or related ETFs: UUP, FXY, JYF.

Once markets believe there's a real resolution in place for the situation, the opposite positions would benefit.

Disclosure: No Positions