How Problems in Europe are Likely to Impact Investors


While the results of the election in Greece have given a sense of relief, it may only be temporary. The revolutionary party, which is seen as favoring a Greek exit from the Euro rather than accepting the austere terms of a bailout, almost won and may well win in the next election. By the time the next election comes around, the economic, social and political situation in Greece may well have worsened ? not to mention the problems in Spain and Italy and the rest of Europe. These problems have not been solved, and Europe’s slow-motion train wreck has not been halted.

According to Morgan Stanley Smith Barney, the continuing problems in Europe may impact investors through deterioration of the financial markets, the banking system and the general economy (“MSSB: How Greece can roil Europe and the U.S.,” InvestmentNews). U.S. banks have significant exposure to European sovereign debt. Significant losses by these banks could force them to rebuild capital by selling liquid assets (possibly leading to a downward spiral of panic selling) and freezing credit. In other words, it could be a replay of the credit crisis that followed the bankruptcy of Lehman Brothers.

U.S. prime money market funds, which hold $1.5 trillion of investor funds, are again at risk of “breaking the buck,” according to the article, as the short-term debt of European banks make up one-third (1/3) of their holdings! In a worst-case scenario, that could spark a run on the funds and another credit freeze.

It is foreseeable that all of the above may lead to a stampede of selling of all risk assets. One area of special concern, according to the article, is U.S. pension funds. Even those not heavily invested in Europe would suffer from a general decline in the financial markets.

The outlook is even worse when one considers the loss of momentum in the U.S. economy. Unemployment is increasing, manufacturing is decreasing, and consumer spending is decreasing. Lackluster growth is expected to continue at 2 percent for the rest of the year (“Recovery Slows as Global Risks Rise,” Wall Street Journal).

“When you look at retail sales, when you look at industrial production, that’s the guts of the economy,” Jonathan Basile, an economist with Credit Suisse, was quoted as saying, adding: “And if you look at those indicators they’re telling you things are slowing down.”

Then there is the “fiscal cliff” in the U.S. that we are rapidly approaching. Billions of dollars will be taken away from Americans and the U.S. economy when Bush-era tax cuts expire and agreed-upon, across-the-board spending cuts occur at the end of 2012. Some expect the President and Congress to take action before this happens, but others believe the only action will be finger-pointing and blaming.

Economists are pessimistic and fear that even their downgraded projections are too rosy. “The U.S. economy is in low-altitude orbit but threatened by uncontrolled meteors of euro crises and fiscal cliff that might knock it out of orbit,” Allen Sinai of Decision Economics was quoted as saying.

Page Perry is an Atlanta-based law firm with over 170 years of collective experience maintaining integrity in the investment markets and protecting investor rights.