The Euro Crisis Reaches Berlin

Nov. 23, 2011 2:34 PM ETSPY, MDLZ, MSFT, BRK.A, BRK.B, EUO, FXE
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SL Advisors

By Simon Lack

Contemplating the unthinkable long ago became a necessary tool for analyzing the euro sovereign debt crisis. Today's failed bund auction is another step on the road to Berlin. The 1.98% yield is hardly attractive, and one could quite understand investors avoiding such paltry returns for ten years under most circumstances. But the euro's uncertain future has done what miniature German interest rates have not, and that is cause a shortage of willing buyers. Only 65% of the offered bonds were desired by private investors, and as a result the Bundesbank became the unwilling holder of over €2.3BN of the €6BN auction. They apparently plan to sell these in the near future when markets are calmer. They probably will - but this episode represents another step towards the cliff with seemingly no clear plan of action from policymakers to turn away from the brink.

The € seemingly has no good options. The best prospect for the currency to strengthen is in the event of a surprising and dramatic plan to solve the crisis. No such event appears plausible, but regardless of that all the likely solutions are negative for the currency:

1) Slower growth through the austerity of reduced government budgets.


2) A compromise of the ECB's single focus on inflation as it buys unlimited amounts of debt.

And there's always the possibility of neither of these, which is most likely worse.

The relationship between the € and the S&P500 (SPY) has grown steadily tighter in recent months. The correlation of returns between the S&P500 and the € over the past year is 0.6, whereas over the past month it's 0.84. The slope of the regression line has gone from 0.27 to 0.4, and the relative volatility has risen from 0.4 to 0.9. In layman's terms, they've become more linked but in addition the € has

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Following 23 years with JPMorgan, in 2009 Simon Lack founded SL Advisors, LLC, an SEC Registered Investment Adviser. SL Advisors manages investments in energy infrastructure, including the Catalyst MLP & Infrastructure Fund (MLXIX), the American Energy Independence Fund (USAI), and separately managed accounts. Prior to this, much of Simon Lack’s 23-year career with JPMorgan was spent in North American Fixed Income Derivatives and Forward FX trading, a business that he ran successfully through several bank mergers ultimately overseeing 50 professionals and $300 million in annual revenues. Simon Lack sat on JPMorgan’s investment committee allocating over $1 billion to hedge fund managers and founded the JPMorgan Incubator Funds, two private equity vehicles that took economic stakes in emerging hedge fund managers. Simon chairs the Memorial Endowment Trust Investment Committee of St. Paul’s Episcopal Church in Westfield, NJ. He is the author of The Hedge Fund Mirage: The Illusion of Big Money and Why It’s Too Good to Be True, published in 2012 to widespread praise from mainstream financial press including The Economist, Financial Times and Wall Street Journal, and Bonds Are Not Forever: The Crisis Facing Fixed Income Investors (September 2013). Simon is a CFA Charterholder and a member of the New York Society of Security Analysts’ Market Integrity Committee, and makes regular media appearances discussing energy infrastructure. Simon is also a contributor to

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