Recessionary Opportunity

Includes: DIA, SPY
by: Benjamin Shepherd

Last month, the head of the European Central Bank (ECB) announced that ECB economists predict the region's economy will contract by 0.1 percent this year. While the prospect of a eurozone recession came as no surprise-economists around the world have been forecasting a European recession in 2012 for the better part of a year now-such a relatively modest decline is a far more optimistic scenario than the trend suggested by recent economic data.

Private consumption has essentially flatlined in the eurozone, rising just 0.2 percent in the third quarter and falling by 0.1 percent during the fourth quarter. In the first quarter of this year, consumer demand is expected to range from a flat reading to a 0.4 percent decline year over year. Meanwhile, investment in the region fell by about 0.6 percent in the latter half of 2011 and is expected to drop a further 1.3 percent in the first quarter of 2012. And while there are pockets of strength within Europe, industrial production dropped by about 2 percent in the fourth quarter of last year. It is expected to fall by at least another 2 percent in the first half of this year.

Although these are just a few components of gross domestic product, the trajectory of these data suggests that the ECB's forecast is under estimating the potential decline in economic growth. Indeed, it would be surprising if the eurozone contracts by less than 1 percent in 2012. Still, a recession won't become official until there are two consecutive quarters of negative economic growth.

A eurozone recession may be bad news for Europeans, but it's good news for American investors. A weak European economy could depress the Continent's equities, which would allow U.S. investors to purchase shares of high-quality European stocks at attractive prices. Savvy investors should hold some cash in reserve to take advantage of any opportunities that emerge. A weak European market also makes our own domestic blue-chip value investments much more attractive on a relative basis.

In the meantime, the euro should weaken in sympathy with the economic data. Inflation is perking up in the region and the ECB's balance sheet is now larger than the German economy, a new source of anxiety for the bond market. While the euro has rallied so far this year, the greenback should gain ground against it.

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