May 2010
May 7, 2010
As you are likely already aware, yesterday was an interesting day for the financial markets. Although nothing has been confirmed at this point, it does appear the large dip of around 1,000 points in the Dow Jones Industrial Average (DJIA) was due to trading errors compounded by the automated systems of some traders. Aside from this error issue is the more serious issue of Europe—Greece in particular. The Greek economy is the main reason the DJIA has fallen significantly this week. There is a lot of information available about the Greek situation and I thought I would summarize a number of key points for your information.
Why Greece?
The World Bank recently released a report ranking the ease of doing business in 183 countries around the world. Greece came in 109th on this list.1 Per this report, it is easier to do business in Botswana, Mongolia, or Papua New Guinea than in Greece. This is not a new situation, but is a long-term problem for the country. Although Greece is part of the Euro Zone it probably should not have been invited to join. When Greece joined the Euro Zone in 2001 it did so with an exemption from EU debt rules. This deficiency was not addressed with any thoroughness and we now see the outcome of Greek governmental borrowing.
Beyond the debt issue that has dominated headlines is an issue of corruption. Transparency International’s 2009 Global Corruption Barometer ranks Greece among the most corrupt of European countries for corruption, falling into the same category as Lebanon and Pakistan rather than Germany or France. The report notes that 18% of Greeks either paid a bribe or had someone in their household who paid a bribe within the past year. For comparison, the USA and most western European countries came in at 1-2%.2 A full 3/4 of the population surveyed declared their government’s efforts at fighting corruption to be ineffective.3 Businesses have a very hard time thriving in such an insecure and arbitrary environment. High levels of corruption in an area make it difficult to develop a healthy business environment.
Both of the issues of outsized, irresponsible borrowing and high levels of corruption have combined to create the uncertainty for Greece’s future that has roiled markets this past week. Germany, France, and other relatively healthy economies will be affected by the need to bail out Greece. While Greece has a small economy in relation to many other Euro Zone nations4 its debt obligations are large enough to impact these economies that have already been weakened by the recession. Had the Greek situation been dealt with in a more serious manner in February or March it would have created a more stable impact than what we have seen play out this week. Germany has dragged its feet in dealing with Greece. Yesterday’s stock market activity has now pushed them to act definitively.
Spain and Portugal
Part of the reason for this week’s market sell-off is due to fears over the situation in Spain and Portugal. These are 2 other fairly weak members of the Euro Zone that have not seen much recovery from the recession and have relatively high levels of borrowing. Given that EU member nations have already pledged resources towards bailing out Greece the fear is that no help will be available should Spain or Portugal continue to experience weakened economies and need help from other EU member states. Neither Spain nor Portugal have the issues regarding hostility to business or corruption hampering recovery that has been seen in Greece. The Bank of Spain just released a positive GDP figure for the first quarter of 2010. Their estimates are generally well-regarding and this is seen as a welcome positive development for Spain. Portugal is facing a somewhat worse situation than Spain, but has a level of debt closer to France’s than Greece’s.5 In summary, while neither economy is robust and healthy, neither are they on par with Greece either in terms of debt levels, difficulty of doing business, or level of corruption.
Future
The European market is challenged at the moment. The Greek situation is going to take some time to work through. However, the leadership in Germany and France are actively addressing EU problems. The movement of the global markets this week has gotten the attention of portions of the leadership that were hesitant to address Greek problems and measures are being taken to resolve the problems Greece has created. Stocks and mutual funds with exposure to the European markets are facing challenges. As European markets work their way through this situation the rest of the world will feel some impact as well. However, not all is doom and gloom for every sector. As the Euro has weakened, investors have moved to U.S., Canadian, and Australian bonds and currencies. All 3 of these dollars have risen as the Euro has declined in value. Some bonds and bond funds actually increased in value yesterday. Others dipped in value, but only slightly.
While it can be emotionally jarring to watch the market take a hit like yesterday’s, long-term investors see such movements as moments for opportunity. One of the goals of investing is to buy low and sell high. Right now is a time to search for underpriced assets and wait for the crisis to pass and the assets to appreciate. We have seen drops in the market before and will undoubtedly see them again. Reacting to short-term movements generally works counter to long-term investment strategies. These events do pass.
1) http://www.doingbusiness.org/economyrankings/
2) http://www.transparency.org/news_room/in_focus/2009/gcb2009#dnld; Global Corruption Barometer, pg. 8
3) http://www.transparency.org/news_room/in_focus/2009/gcb2009#dnld; Global Corruption Barometer, pg. 32
4) http://en.wikipedia.org/wiki/Economy_of_the_European_Union
The information contained in this newsletter is for general use, and while we believe all information to be reliable and accurate, it is important to remember individual situations may be entirely different. The information provided is not written or intended as tax or legal advice and may not be relied upon for purposes of avoiding any Federal tax penalties. Individuals are encouraged to seek advice from their own tax or legal counsel. Individuals involved in the estate planning process should work with an estate planning team, including their own personal legal or tax counsel. Neither the information presented nor any opinion expressed constitutes a solicitation of the purchase or sale of any securities.