Investors, pundits and journalists alike have spent hours of research, television time and column inches speculating about the ramifications of a U.S. default or “contagion” from Greece spreading throughout the European Union.
Last week the EU was apparently successful in again “kicking the can” a bit farther down the road while the debate between Congress and the White House over deficit reduction goes way past the 11th hour for meeting the August 2nd deadline.
Everyone expects and assumes that the European Union will be able to save Greece and that our politicians won’t take the United States and the world over the financial cliff of destruction. However, that still could still very well happen which is why in previous columns we’ve discussed ETFs and strategies for that possibility.
But what if the US does not default and the EU can somehow rescue Greece? What should ETF investors do if, in fact, the world doesn’t come to an end?
The first indicator of how to approach August 3rd would likely pop up in how/when President Obama and Congress finally manage to patch up the debt ceiling debate. As mentioned last week, President Obama, the Fed, and the GOP controlled house have multiple “Fingers in the Dike” about what to do to fix the looming deficit ceiling and a sputtering economy.
Also last week, Moody’s Investors Services threatened to place the US bond ratings “on review for a possible downgrade,” while Standard and Poor’s threatened to place the U.S. sovereign rating on “CreditWatch with negative implications.” The outcome of August 3rd likely relies on just what kind of deal Congress and the President strike.
Assuming that the debt ceiling is simply raised to stave off potential global catastrophe, investors can expect “Trouble in Bond Land,” as Moody’s, Standard and Poor’s and the rest of the market are likely to punish Congress for not getting its fiscal house in order by finding a longer term solution. Simply raising the ceiling does not seem to be good enough anymore for investors, and so Bond ETFs like (IEF) iShares Barclays Treasury Bond 7-10 year ETF will likely experience turbulence until markets regain their confidence in the Federal Government.
However, should President Obama and Congress come to a broader, longer term deal, US Treasury Bonds could still serve their purpose as the “safe haven” for money, and continue their role as the best of the ugly. In spite of the current situation, if Congress and the President actually strike a deal that could fix the debt problem over the longer term, confidence could be restored in the all faithful US Treasury.
Across the Atlantic, the EU keeps trying to stop the Greek hemorrhage which, well, keeps hemorrhaging. Just last week the EU finally decided to release a 2nd bailout package for the troubled nation, consisting of 109 billion Euros. Assuming that solution is sound and works to clean up this mess, troubles still loom ahead in Italy and Spain. Therefore, ETFs to follow in Europe could include the iShares MSCI Spain Index ETF (EWP) and iShares MSCI Italy Index ETF (EWI). If the EU can stop “contagion,” these ETFs could be promising “buys,” while another flare up across the Atlantic could lead these countries into a terrifying freefall.
All in all, investors should be wary and aware of the dangers of our current environment. At home, any kind of a “kick the can” deal on deficit reduction is likely to be met by heavy punishment from the ratings agencies and the “bond vigilantes,” while in Europe, we can expect that there will be opportunities in the PIIGS, particularly Italy and Spain, no matter what the outcome of the containment efforts.
The bottom line: Investors should not assume anything, as the deals being hashed out on both sides of the Atlantic, no matter how promising, may not pan out according to plan. At the end of the day, any“deals” made will still have to “deal” with the current problems that just won’t seem to go away.
