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In my Thursday morning Profit from the Pros message, I noted the “water cooler” conversations around the Zacks offices. That was putting it mildly. I actually rounded up 7 of the top investment minds on staff to have a healthy debate on where things are at and the likely outcome for Europe, the US economy and stock market.

The goal of the conversation was not to reach a consensus. Rather it was for each person to test their theories against others who could poke holes in it.

I have no doubt that everyone left that room with a firmer understanding of the issue at hand. And yes, my thinking on Europe has evolved as well. In a nutshell, I now believe that the odds of success are better than 50%. But not so much better than that as to get gung ho bullish this minute. There is still plenty of opportunity for them to botch it up royally and our market sinks.

We joked around that the current scenario was like a game of Russian Roulette where 2 or 3 of the 6 chambers of the gun are filled with bullets. So you have decent odds of survival. Unfortunately the mortality rate is higher than most would like.

Because of that is why my portfolio got back to balanced yesterday. As in 0% long the stock market. And I recommend the same to you given the precarious state of affairs we find ourselves in (more on that below).

This neutral portfolio stance will not last forever. My intention is to jump on the market bandwagon once it breaks out in either direction.

If stocks breakout higher above the 200 day moving average resistance at 1267, then my 0% long posture will have only cost me a couple points of upside. I can certainly make that back quickly as the breakout continues to unfold since my portfolio will then be chock filled with Zacks #1 Ranked stocks.

If we breakout lower than the 1100 support, then being 0% long will have us at relatively breakeven while the market sank -11%. No complaints on that score. Then as stocks continue to head lower, we can certainly add more shorts to the mix to amplify gains in that direction.

With that being said, let’s now turn our attention to the big picture so you understand why I have become more positive on the European situation.

From Complex to Simple

When a problem is as large and complex as the Euromess is, it becomes very appealing to seek simple solutions. And too often it is easiest to think the simple solution is the worst case scenario. Certainly the investment media has provided an overabundance of bad news on the subject (not because the bad news is right…but because bad news attracts more people to their media outlet so they can sell more ads…just a sad statement of the human condition).

But gladly there are positive aspects of the human condition. And that is that people will generally seek outcomes that create the most good for the most people. The famous game theory, the Nash Equilibrium, is one prime example.

In that vein, it helps us get a healthier perspective on what the likely outcome in Europe will be even if we don’t understand every nation, every leader and every little plan they create. It would be nearly impossible to construct a game theory model with 17 unique players as we have in the Eurozone. Gladly we can accomplish what is needed by thinking of them as 2 players. The stronger nations (Germany, France) vs. the weak (Greece, Portugal, Italy etc).

Motivation of the Strong Nations: Why would French and German citizens want to bail out their debt ridden neighbors to the south? It allows them to keep the Euro currency which would be cheaper than their own nation’s free floating currency. And a cheaper currency is good for exporting goods around the world. This is a big part of the German economic success story. France as well, but to a lesser degree. More on their motivations later after you understand why the weaklings want to stay in the Eurozone.

Motivation of the Weak Nations: On the one hand it’s no fun to be told how to run your nations affairs by others. If you have a big brother or sister you know what I am talking about. Most people want autonomy to run their nation as they see fit.

On the other hand, if they (Greece, Italy etc) leave the Eurozone, then they will have to restart their drachma and lira based currencies. Given the weakness of their economies, the value of their currency would plummet. Currency devaluation is a great way to pay back your debts with cheaper money. The unfortunate problem here is that their debts are denominated in more valuable Euro dollars. So a collapsing drachma or lira would most assuredly lead to a national default and likely multi-year depression.

This also explains why the stronger nations don’t want to kick out the weaker nations. If they do, then many of the banks in Germany and France holding the bonds of the weaker nations will go bust. Plus the exporters in those nations will suffer from weaker product sales down south. So the problems of the south will be exported to the north where depressions would also become the norm.

Add it up and it is in the best interest of ALL parties to keep the Eurozone together. The likely solution has been there all along. That is to create a Eurobond which creates more Eurodollars to paper over some of their problems with the banks and weaker nation debt.

Yes, this is akin to the blueprint from the US…but that blueprint works pretty well as can be seen by our 2 and 1/2 recovery. Sure it might not be as strong as some would like. But we are a lot better off than the Great Depression 2 scenario that would have unfurled if the Fed and Treasury didn’t act as they did. Meaning it’s better to have a bit more debt and slightly higher inflation now rather than massive recessions or lengthy depressions.

Now I realize that the Germans are the key players here. And they have said time and time again they do not want to create Eurobonds and print more money. That is because every German has a STRONG aversion to this concept because of what happened during the Weimar Republic period of their history (massive inflation leading to depression leading to Hitler and you know the rest).

Sheraz Mian from Zacks has spoken quite eloquently on this subject. This is the great German bluff. They know that Eurobonds and printing money is the solution here. But they can’t show their hand too soon.

Instead they need to hold all the bad actors and spendthrifts over the cliff to see that they will most certainly perish on their own. Once these nations concede to all the austerity measures that Germany wants, then they will roll out the printing press (which by the way really got popularized in Germany to print the Gutenberg Bible in 1452).

With all that being said, I now realize that I have oversimplified the story to the optimistic view. Unfortunately there are indeed 17 individual players/nations in this game, which does make it a lot more complicated. And yes, it only takes one bad apple to spoil the whole cart. That is why some talk about Greece or Italy being tossed out of the Eurozone. Or they make two Eurozones (North and South as some put it. Whereas I coined the term Euro Safe vs. Euro Screwed ;-) Each of these alternative outcomes has negative side effects.

The game theory does help me see that more likely than not the Europeans “contain” their problem as we did in the US. This allows them to keep away from a depression. Then they deal with sub-par growth for 5-10 years to work off some of the excess debt. Again, that is the solution “American-style”. That would be a great outcome allowing the US economy and stock market to head higher.

But what are the odds of this happening versus a nastier outcome? Perhaps 60-70% likelihood. Again, that leaves at least 2 bullets in the chamber of the six-gun for our aforementioned game of Russian Roulette. I personally don’t like the odds of pulling that trigger prematurely and suffering a mortal blow to our portfolios.

Instead, we play it balanced and safe until the odds improve. And a clear breakout from the ranges will most likely signal those events.

Until then let’s be balanced and nimble to not get our heads blown off.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Source: Why I Am 0% Long Stocks