One of the many fascinating things happening at the moment is the huge divergence of opinions and predications being made by the worlds “financial experts”.
Some talk of the breakdown of the system and the impending collapse of all we know, others of the generational chance to acquire assets at depression induced bargain prices.
Emotions swing wildly between deep depression, fear and anxiety to hope, excitement and a sense of opportunity, sometimes in the same day.
SO WHAT’S REAL
As in most things one must overlay the knowledge and understanding that humans crave certainty and absolutes. The desire is for surety and therefore there is an attraction to those that profess to “know”. The “reality” is that it is a murky, messy and opaque world in which there are rarely absolute single answers.
The embracing of nuance and compromise (as evidenced in Western political systems) is in short supply, the conviction politician being King or Queen. Is this actually credible though, can anyone see the way with absolute clarity and know what is to be done without doubt. The desire for such a Prophet or Sear whilst understandable is possibly an illusional exercise in hope of logic and desire over reality.
The exercise of creating a coherent and unified European action plan to the current situation has been likened to attempting to herd 17 cats into a very small pen.
There are so many conflicting agendas and political constraints at play that the process has been and is going to be torturous and frustrating.
Points to consider
- Germany holds the key, they are the big dog of Europe, they have the money, the credibility and the markets respect, if they buy in all is well
- The German people don’t want to underwrite the feckless Southern European states
- Politicians are constrained by their constitutions, there are many things that cannot be agreed too without reference to electorates which is both time consuming and carries no ultimate guarantee that proposed actions will be ratified
- Against the above is the knowledge that it is in Germanys self-interest to protect the Union, if it goes down Germany suffers greatly
So here you have the classic dilemma they know they need to act but they have to find a way of doing so which is workable given their constraints (i.e. messy, murky and requiring compromise).
THE FINANCIAL SYSTEM
The 2008 US led financial failures (Lehman and Bear Stearns et al) have been both a blessing and a curse for the current situation.
The blessing is that there is no doubt in anyone’s mind that the implications of the bankruptcy of large institutions are not singular events; the contagion effect is incalculable and potentially catastrophic. The unintended experiment to establish this (which was the decision by Paulson to allow Lehman to fail) has meant this will never be allowed to happen again if it can be avoided.
The curse however is that the markets are hyper sensitive to the above exactly because of the Lehman experience, prior to 2008 the implications of systemic financial failure was an academic exercise not perceived as real, the fear of a recurrence has created enormous market anxiety, exactly because of negative past experience being repeated. The markets have experienced a hugely painful event (2008) and humans fear and seek to avoid pain (especially repeated pain) as their highest emotional priority.
It is helpful to understand the workings of the market not just in technical terms but also at an emotional level.
As Warren Buffet has said on many occasions (and is a steal from Ben Graham his mentor).
“Over short periods markets are voting machines, over long periods they are weighing machines.”
The point is that markets over short periods (and the majority of market activity by volumes is short term) is akin to a child in emotions and reactions.
As parents we know that a child wants what it wants when it wants it. The frustration of adults is that a child cannot see the bigger picture, the options that need to be weighed, the complexities, the difficult choices, they just know they they want something and if they don’t get it they will object noisily.
This is why in part the short term market turmoil (tantrum) can be discounted by adult investors as just such, this is not to dismiss everything as childlike but it is to recognise that over longer periods the markets reach rational thoughtful conclusions (they “weigh” the evidence) over short terms it is sometimes just naked emotion (exuberance or fear).
“THE GAME IS AFOOT”
The current situation is a “game” of 3 dimensional chess.
The main participants are considering all their potential options (moves) and modelling the likely implications of such (cause and effect).
There are many alternatives which are being analysed:
- The creation of a Euro Bond (difficult politically and constitutionally, the best answer but the most difficult to achieve)
- The creation of a European “Special Purpose Vehicle” (SPV) which buys the debt of the periphery funded by Europe, US, China, Japan etc and levered up (this option is the one that was floated about a week ago via Steve Liesman of CNBC)
- Use the IMF as the institution to dump onto all the toxic sovereign debt, this will again be funded by the worlds wealthier countries (this avoids the multitude of political and constitutional issues related to a European “in house” solution)
- Pump huge levels of liquidity into European banks and then let Greece default. (The easiest solution in that each Country simply looks after its own banks so no constitutional issues) but it’s fraught with the dangers of contagion and the unknown unknowns
The markets want an answer, a single silver bullet that kills the fear of financial failure and contagion, it wants certainty and they want it now!
This is understandable, but it’s not going to get it either quickly or neatly packaged.
The reality is that the solution to these problems will take time, be incremental, will involve compromise, be imperfect and will create new problems down the road, (it’s usually the way, this is how life is, some good, some average and some crappy).
The European system will in all likelihood survive and to an extent prosper. The current situation will mean that some of the previous imperfections in the system are corrected (i.e. the Greek gaming of the system will not be allowed to be repeated).
It will be volatile for a while longer but as and when the market believes the danger of the “end of the world as we know it” has passed asset prices will recover and the children will be quiet for a time allowing the adults to “weigh” it all up.
NOTE: This is written in a personal capacity and reflects the view of the author. It does not necessarily reflect the view of LWM Consultants. The post has been checked and approved to ensure that it is both accurate and not misleading. However, this is a blog and the reader should accept that by its very nature many of the points are subjective and opinions of the author. This is not a recommendation to buy any product or service including any share or fund mentioned. Individuals wishing to buy any product or service as a result of this blog must seek advice or carry out their own research before making any decision, the author will not be held liable for decisions made as a result of this blog (particularly where no advice has been sought). Investors should also note that past performance is not a guide to future performance and investments can fall as well as rise.