I Don't Expect QE3, But I Expect LTRO3 Soon

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Includes: AAPL, BAC, QQQ, SPY
by: Jacob Steinberg

It's very typical for the markets to talk about quantitative easing (also known as QE) every now and then. It looks like American markets are expecting at least one QE every year, and whenever the Federal Reserve goes a while without mentioning QE, the market takes a dive. Interestingly, towards the end of 2011, the European Central Bank decided to do its own QE in a different shape and form and it did help the global markets rally in the beginning of the year. Now it seems like the effects of LTRO has worn off, and a new one is highly expected by the market.

Each day, it is becoming more obvious that Greece will not be able to pay off its debt, Spain's local governments will undermine the federal government's struggle to meet the budget goals, things will not change for the better in Italy, and yet for worse, France will be joining in the ranks of these countries too. Unfortunately, the austerity thing isn't working out, and it will not be working in the near future either. I don't think there is a feasible permanent solution to the European crisis. If there was such a solution, it would have been implemented already. European economies will have to shrink painfully for the years to come until they are competitive again. However, this process will leave millions of Europeans unemployed for a very long time. Because Europeans can't find permanent solutions to their economical problems such as high debt and lack of growth, they will keep coming up with temporary band-aids such as LTRO.

Markets are now addicted to free money. They need free money from central banks- it doesn't even matter which central bank- in order to be stable. While it's not ethical or the right thing to do, I believe this behavior of central banks offering free money to markets will continue for many years to come until a true solution is found for the European economy.

Of course, some may ask whether the U.S. economy is in any better shape. The U.S. economy is more competitive than the European economy when it comes to employment, innovation and consumer-driven growth. As a capitalist economy, the U.S. can financially always readjust and reinvent itself, unlike most European nations.

Once the housing market starts showing more signs of improvement, the U.S. economy will be back on its track to a healthy rate of growth. For Europeans, it will take much more than that to get the economy moving. Many jobs that moved to China and India over the last few decades will be back in the U.S. in the future, however I can't say the same about European nations. European nations are far from competitive and Germany is the only European country I would call business-friendly. Businesses can't grow and prosper in environments where governments over-regulate.

Furthermore, European banks currently run a high risk of a bank run. There are reports indicating that many Europeans are getting ready to withdraw their savings from the banks. Because banks are highly leveraged businesses, it would hurt them significantly even if a small portion, say 5% of a bank's customers, pulled their money from the bank on the same day. Last week, Greeks withdrew $700 million from their banks around the country, raising fears of insolvency in many banks. If Greece exits the eurozone, all the money Greeks deposited in their bank accounts will be converted from euros to Greece's new currency. If Greece's new currency loses a lot of value after being issued, these people will lose a lot of money as a result. If Greece exits the eurozone and Italy, Spain, Ireland and Portugal show signs of following the path of Greece, many individuals in these countries will also take their money out of their local banks in a similar fashion.

As things get tougher in Europe and finding a permanent solution looks distant, Europeans will be forced to come up with temporary patches for the economic problems in the continent. This is why I believe that LTRO3 is very likely. When it happens, the stock market will re-start its rally, just like it did right before last Christmas. If such a rally occurs, the stocks that were beaten most in the recent plunge will benefit the most. One such example is Apple (NASDAQ:AAPL) and another is Bank of America (NYSE:BAC). Index funds that focus on S&P (NYSEARCA:SPY) and Nasdaq (NASDAQ:QQQ) will also be good options.

Disclosure: I am long AAPL, BAC.