Debt
Latest Greek Debt Crisis Deal Solves Nothing
Although a pending deal will allow Greece to get its next batch of bailout money, the Greek debt crisis is as much of a time bomb now as it ever was.
Private bondholders tentatively agreed yesterday (Thursday) to take a 70% "haircut," or a reduction in the value of the Greek debt they hold, in exchange for more Greek austerity measures.
If the Greek parliament approves the measures, which include lowering the minimum wage by 22%, cutting 150,000 public sector jobs and further reductions in pensions, Greece will get the $130 billion in bailout money it must have to avoid default on March 20.
Trouble is, none of that solves the real problem, which is Greece's shrinking ability to pay back future debt.
"Greece will be able to make the payment and immediate default will be avoided," Jurgen Odenius, chief economist for Prudential Fixed Income, told USA Today. "But the situation still won't be sustainable."
Previous austerity measures designed to lower budget deficits have hammered the Greek economy. Unemployment is 20.9%. The country's gross domestic product (GDP) has declined for five straight years and has been negative for the past three. Last year the Greek economy contracted 5.7%. Economists expect Greek GDP to shrink another 5% or so this year.
As the Greek economy gets smaller, balancing the budget gets harder. Greece almost certainly will need to keep borrowing money for years to come.
And because Greece's credit is shot, it will have a tough time selling bonds at rates low enough to avoid sinking deeper into the debt hole.
Cash for Keys: Avoid Foreclosure, Pay the Bank Less Than What You Owe… and Get $30,000
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The Hunt for Higher Yield: Investors Pour into Emerging Market Debt
The never-ending hunt for higher yield is leading investors to bet record amounts on emerging market debt.
In just the first two weeks of 2012, governments of undeveloped economies from Asia to Africa sold more than $30.6 billion in dollar-denominated bonds according to Bloomberg News.
That's up from roughly $19.9 billion in the same period last year and the most since 1999, when Bloomberg began collecting data.
Typically, investors shun emerging market bonds during times of uncertainty in favor of "safer" assets like gold and U.S. Treasuries.
But that has started to change.
The Big Move Into Emerging Market Debt
In fact, investor demand is overwhelming supplies as orders have outstripped the amount of bonds being sold.
During a recent auction, the Philippines received $12.5 billion of orders for $1.5 billion of 25-year bonds, pushing the yield down to a record-low 5%. Indonesia sold 30-year bonds at a record-low yield of 5.375% and Colombia sold $1.5 billion of 29-year bonds at 4.964%.
Analysts say the debt crisis in Europe, along with record low yields on U.S Treasuries, has investors on the hunt.
They are now buying the debt of undeveloped nations like Indonesia, Mexico and Brazil, even though credit-rating firms rank them as more risky than their European counterparts
"What we're seeing is a re-evaluation of sovereign-credit risk, increasingly being driven more by fundamentals than by classifications," Eric Stein, a portfolio manager at Eaton Vance Corp. (NYSE: EV) told The Wall Street Journal.
According to the J.P. Morgan Emerging Markets Bond Index, investment-grade sovereign emerging-market bonds are yielding an average of 4.7%.
By contrast, Italian 30-year debt yields 7%, while Spanish 30-year debt yields 6.1%.
One reason emerging market bonds are attracting interest is…
Why You Should Ignore the Coming Debt Ceiling Debate
Under the guise of yet another debt ceiling debate, Republicans and Democrats will spend much of the week demonizing each other on the Washington stage.
But don't be fooled. This so-called debate will be nothing more than a planned-in-advance sideshow to supply each side with 2012 election campaign fodder.
The deal put in place on Aug. 2 essentially guaranteed that the limit on the U.S. national debt would be raised to $16.4 trillion in January. That means any sound and fury that emanates from Washington this week over raising the debt limit will signify nothing.
"It's pro-forma. They already made a deal to raise the debt ceiling last time around," said Shah Gilani, Money Morning Capital Waves Strategist and author of the Wall Street Insights & Indictments newsletter. "The President has to ask for the increase — which makes it look like he caused it — and the Republicans get to display anger that "here we are again.' But it's a game they agreed to earlier."
The deal in August intentionally split the debt ceiling increase into three separate requests to set up these faux debates for public consumption.
U.S. President Barack Obama did his part on Thursday by making a formal request for the $1.2 trillion increase in the debt limit.
That was the cue for Republicans in the House of Representatives to draft a "resolution of disapproval" which they will debate and vote on this week. And given that the GOP has a majority in the House, the resolution is guaranteed to pass.
In this play's next scene, the Democratic-controlled Senate rejects the resolution, which allows President Obama's requested debt ceiling increase to take effect by default – just as all sides envisioned back in August.
And even if a few rebellious Democratic Senators vote with their Republican colleagues, President Obama can veto the resolution. With the odds of Congress overriding a veto near zero, the debt ceiling increase is pretty much a lock.
But the show must go on.
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Paul Krugman is Dead Wrong: Debt Matters
Paul Krugman, the Princeton University economics professor, Nobel Prize winner, and regular New York Times op-ed contributor says, "Debt matters, but not that much."
Not only is he off the reservation on this one, but he's completely fallen off his high horse.
In the real world, debt actually matters a lot.
In a Houston Chronicle opinion piece last week, Krugman, riding his horse – whose name might as well be Liberal Conscience – trampled conservatives under the guise of an economics lesson that derided "deficit-worriers" for wrongly seeing "America as being like a family that took out too large a mortgage, and will have a hard time making the monthly payments."
According to Krugman, that's a bad analogy and "the way our politicians think about debt is all wrong, and exaggerates the problem's size."
Decide for yourself. Either debt matters a lot, or not that much…
The World According to Paul Krugman
Professor Krugman calls all the conversation in Washington about debt and deficits a "misplaced focus" and says all of the economic experts "on whom much of Congress relies have been repeatedly wrong about the short-run effects of budget deficits."
He derides the fears that deficits will cause interest rates to soar by pointing out that they haven't moved.
What he doesn't say is that they haven't moved because they're not free to move.
The fact is that the U.S. Federal Reserve has corralled the free market in interest rates by knocking short-term rates to almost zero through successive open market operations and extraordinary quantitative easing measures.
Mr. Krugman mocks those waiting for rates to rise and notes that while they wait "rates have dropped to historical lows."
Maybe what he doesn't realize is that the Fed's actions themselves have been nothing short of historical.
The crux of Mr. Krugman's supposition that debt doesn't matter much is based on his bashing of the popular analogy comparing America's debt problems to those of a mortgaged homeowner.
All of which Krugman claims is "a really bad analogy in at least two ways."
He says, "First, families have to pay back their debt. Governments don't – all they need to do is ensure that debt grows more slowly than their tax base."
"Second," he says, "an over-borrowed family owes the money to someone else; U.S. debt is, to a large extent, money we owe ourselves."
He goes on to say that the debt from World War II was never repaid and didn't make postwar America poorer.
In fact, the Professor points out, "the debt didn't prevent the postwar generation from experiencing the biggest rise in incomes and living standards in our nation's history."
Krugman is Flat Out Wrong
First off, the homeowner analogy is excellent–not irrelevant.
Mr. Krugman is wrong when he says that homeowners have to pay back their debt. The truth is they don't have to.
How the European Debt Crisis Could Smother Fiat S.p.A. (PINK: FIATY)
Around this time last year I warned you that the Eurozone debt crisis would trample the Italian economy and take carmaker Fiat S.p.A. (PINK: FIATY) down with it.
To profit from this debacle, I told you to short Fiat. Since then, the stock has tumbled 76%, from $19 a share to yesterday's (Wednesday's) closing price of $4.66.
Fiat is a perfect example of how an unstable home market – like Italy – will kill a struggling company's stock. Fiat is Italy's largest private sector employer, and the past year's market performance mirrors the weakness unleashed by the European debt crisis.
Sadly, Fiat won't be the only company whose shares will plunge.
TheEuropean debt crisis has grown from a problem on the edge of Europe to a problem inside the region's core. You only have to look at the series of bank stress tests that Europe has rolled out to see that things are getting worse, not better.
In fact, the European Central Bank (ECB) announced yesterday that it would provide $638 billion (489 billion euros) in three-year loans to more than 500 banks in the Eurozone. More than a dozen Italian banks borrowed $143.52 billion (116 billion euros).
But the solution is only short term, and the region's grim long-term outlook hasn't changed. We're heading toward a point of maximum pessimism – one I think we'll reach sooner rather than later.
So, it's time to thank the Eurozone, Italy, and Fiat S.p.A. for a great short trade and close it out. While the stock could go all the way to $0, the meat of the move is over, and we want to take profits before a major short-covering event gives the share price a temporary boost.
Fiat S.p.A.: Stung by the European Debt Crisis
The European Central Bank forecasts Eurozone growth will slow to a near standstill next year, with gross domestic product (GDP) only expanding 0.3%. The ECB said area-wide inflation will reach 2.7% in 2011.
This slow-growth, higher-priced environment won't bode well for the region's automakers, which are already feeling the effects.
Automobile registrations in Europe in November dropped 3% to 1.07 million vehicles from 1.10 million a year earlier. That's the biggest decline since June, according to the Brussels-based European Automobile Manufacturers Association. The Italian auto sales market led the region's declines, slipping 9.2%. France was close behind at 7.7%.
Latest Eurozone Debt Crisis Plan "Another Grand Illusion"
As European leaders celebrated a tentative agreement to accept tougher budgetary rules among its members, critics expressed doubts the plan would cure the two-year-old Eurozone debt crisis.
Last week's highly anticipated two-day summit resulted in 26 of the 27 European Union (EU) nations – the United Kingdom objected – agreeing to create a new treaty that would require members to keep budget deficits to within 0.5% of gross domestic product (GDP) in good economic times and within 3% of GDP in bad times.
EU governments would need to submit their budgets to a central fiscal authority, and violations would carry automatic penalties. The nations agreed to hammer out the details by March of next year.
World stock markets reacted positively, but many experts remain unconvinced that the EU has finally delivered the silver bullet needed to slay its monstrous debt crisis.
"They needed to create grand plan that's really workable and not another grand illusion," said Money Morning Chief Investment Strategist Keith Fitz-Gerald. "I'm afraid what we're getting is just another grand illusion."
In fact, last week's meeting was the fifth summit called to deal with the European debt crisis since 2009. Each has produced its share of optimistic rhetoric, but no concrete solutions.
European leaders from France, Germany, the European Central Bank (ECB) and the International Monetary Fund all hailed the summit agreement as a major step toward getting the debt crisis under control.
"This is the breakthrough to the stability union," said German Chancellor Angela Merkel at the end of the summit. "We are using the crisis as an opportunity for a renewal."
"It's a very good outcome for the euro area, very good," added ECB President Mario Draghi "It is going to be the basis for much more disciplined economic policy for euro-area members."
Fitz-Gerald said Europe's leaders mean what they say, but ultimately the latest summit will do little more than spark a brief rally in the markets.
"These government officials still don't get it," Fitz-Gerald said. "They're still not addressing the underlying problems. We'll be having this conversation again next year."
A Tough Sell
Although enforcing budgetary austerity would help prevent current debt problems from getting worse, it's unlikely the citizenry of most EU member nations will allow it to happen.
"Their proposal is preposterous," writes Brett Arends of MarketWatch, likening the EU plan to the United States allowing its largest creditors, Japan and China, control over the federal budget.
"How would you feel if you opened the paper to be told that the new Sino-Japanese "Fiscal Stability Commission' in Washington had just slashed your grandma's Social Security checks by one-third, scaled back federal highway repairs, and that it would impose a 10% national sales tax?," Arends said. "That is, after all, effectively what is being offered to the people of Greece, Italy, Spain, Portugal and Ireland."
Bailout Bandits: The Biggest Borrowers From the U.S. Federal Reserve
The Eurozone debt crisis has replaced the U.S. financial crisis as the disaster du jour. But make no mistake: U.S. taxpayers will be paying the tab for the U.S. crisis for years.
That's evidently not true of the banking sector, however, whose massive financial-crisis windfall is just now coming to light.
In its January issue, Bloomberg Markets magazine reveals that – at the March 9, 2009 nadir of the financial crisis – the U.S. Federal Reserve had committed $7.77 trillion to rescuing the American financial system. That total was more than half the value of all that was produced in the U.S. economy for that entire year.
While this was going on however, it was a deep, dark secret. The Fed never let on, for instance, that American banks were in such deep trouble that they required a combined $1.2 trillion on Dec. 8, 2008 – "their neediest day," Bloomberg said.
But here's the best part: Many of the biggest banks have ended up doing great as a result of the central bank's largesse.
Here's why: Because these "emergency" Fed loans gave banks access to ultra-low (well-below-market) interest rates between August 2007 and April 2010, banks worldwide were able to earn an estimated $13 billion.
Dean Baker, co-director of the Center for Economic and Policy Research in Washington, told Bloomberg that banks seemed to have it both ways.
Banks "were either in bad shape or taking advantage of the Fed giving them a good deal," he said. "The former contradicts their public statements. The latter – getting loans at below-market rates during a financial crisis – is quite a gift."
Shah Gilani, a financial-crisis expert and Money Morning columnist who edits the free Wall Street Insights & Indictments newsletter, put it more simply: "The average American has no idea how protected the big banks in this country really are. Maybe that's because the biggest bank in the world is the U.S. Federal Reserve. And it happens to be a creation of – and 100% beholden to – the banks that it is a master shill for. It also lies to us and covers up Wall Street's misdeeds."
What follows is a "power ranking" of the 20 banks that saw their outstanding loans peak at more than $25 billion – and some insight on how this Fed lending enabled Wall Street to profit, even as Main Street suffered.
Five Companies to Avoid Until the Eurozone Debt Crisis is Over
U.S. companies with significant exposure to Europe will take a profit hit regardless of how the Eurozone debt crisis shakes out.
The financial strain of Europe's efforts to avert default among its troubled members – Portugal, Italy, Ireland, Greece and Spain (PIIGS) – has set the Eurozone on course for a recession even if its efforts succeed.
Yesterday (Thursday) the European Commission dropped its forecast for growth in the Eurozone to just 0.5% from its previous estimate of 1.8% in May. The commission blamed austerity measures, which were aimed at lowering budget deficits, but ended up eroding investment and consumer confidence.
"The probability of a more protracted period of stagnation is high," said Marco Buti, head of the commission's economics division. "And, given the unusually high uncertainty around key policy decisions, a deep and prolonged recession complemented by continued market turmoil cannot be excluded."
Falling consumer demand has already begun to affect the bottom lines of many U.S. companies that derive large portions of their revenue from the Eurozone bloc.
"In light of cutbacks in government spending, tax increases and waning business confidence, there already has been some [company] commentary on slipping appliances, bearings and heavy-duty trucks demand," Citigroup equities analyst Tobias Levkovich told MarketWatch. "In many respects, these early remarks are a worrisome sign."
For example, General Motors Co. (NYSE: GM) on Wednesday said the debt crisis would prevent it from breaking even in Europe this year. And Rockwell Automation Inc. (NYSE: ROK) on Tuesday warned of declining capital spending in Europe next year.
Although sales to Europe account for only 10% of revenue for the Standard & Poor's 500 as a group, several sectors have far more exposure to the Eurozone.
The auto sector derives 27.6% of its sales from Europe, followed by the food, beverage and tobacco sector at 22%, the materials sector at 19.8%, the consumer durables and apparel sector at 16.2% and capital goods at 16.4%.
"Europe is a major component to the U.S. economic engine and it is a concern," Howard Silverblatt, an analyst with S&P Indices, told MarketWatch. Silverblatt noted that while a European recession may not necessarily take down the U.S. economy, "it has an impact that will move stocks."
Here are five U.S. stocks that have significant exposure to Europe and leveraged balance sheets high – making them risky investments until Europe gets back on its feet:
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