Outlook Q3 2015 (BCA)

BCA Research has hosted yesterday a webcast and focused on two hot spots of the global economy:

• China: The meltdown of equity prices in the past weeks was dramatic, but stabilized in the last few days and, the market is still up 44% year to date.
  
  Shenzhen Stock Exchange A Shares (ThomsonReuters)
  
  Only a small percentage of the population is invested in the stock market, so the influence on the real economy will be negligible. However, the economy is slowing down because of sinking exports, which is bad for commodity and energy exporters elsewhere. Moreover, commodity exporters are suffering from increased production capacity globally. Thus, stay underweight emerging markets, commodity/energy producers, and other importers to China.
• Greece / Europe: The impact of the Greek economy is of no importance to Europe and much less globally. The real question is: Is Greece an outlier or an omen for bigger problems in the Euro area. So far facts are inconclusive: On the one hand, only Greece suffered a depression and a contraction of nominal GDP of 25% in the last 5 years, which could lead to the conclusion that the tragedy in Greece is an exemption in Europe. On the other hand, one could argue that the high debt in Italy will depress Italy's future growth, because of the austerity measures that will be implemented to bring down debt. With Italy's size this would pose an existential threat to the Euro.

Implication for Asset Allocation:
Small overweight of stocks relative to bonds, and favor developed markets over emerging markets. US equties are expensive relative to European and Japanese stocks. Although Japanese stocks profited from the yen devaluation, the are heavily exposed to China. Furthermore, stay overweight defensives vs. cyclicals because global growth is slowing.

BCA Research on Greece

Marko Papic of BCA Research has sent out today a short report about implications of the greek crisis:

• Greece can  cause a correction in the context of high valuations (in the US) and upcoming Fed tightening.
• Things that went wrong this weekend in Greece? Policymakers are playing a “two-level” game, with domestic politics influencing international bargaining. As with previous euro area crises, market and socio-political turbulence is required to get policymakers to overcome domestic opposition.
• There is no timeline for future events. The key date going forward is the €3.5 billion redemption Greece owes to the ECB on July 20. That is it.
• The ECB will pull the plug on Greece:if the July 20 payment it is owed is not fulfilled.
• The upcoming referendum is not a vote on euro area membership: The referendum is important, but a ‘No’ vote does not preclude an agreement. Athens has two weeks between the July 5 referendum and the July 20 ECB redemption to get a deal. In fact, the odds are in favor of a ‘Yes’ vote.
• Greece would exit the euro area by printing drachmas.
• ‘Grexit’ could not produce substantive contagion beyond sentiment. It is a source of volatility in the short term, but a buying opportunity for European peripheral equities in the long term.
• Greece woud not be better outside the euro area.
• Geopolitical you Ramifications of the crisis: Positive for European integration, negative for Greece, and neutral for Russia.
• Investors should  prepare for short-term volatility, and look for long-term opportunities

The two factors weighing on markets

Financial markets have been determined by the "risk on or off" argument for 4 years. Fundamental market analysis does not count in this environment. Last year the meltdown in stock prices was caused by a deterioration of the Euro crisis and was saved in autumn by massive liquidity injection of the ECB (twice € 500bn). This summer we have even two potential areas of infection:

1. The situation in Greece might trigger contagion. Equity markets already have discounted a deterioration in Greece.
2. Some people think that Israel might attack Iran soon. Reuters published an article today. The article states, that Bibi is determined and the window of opportunity is closing fast. Furthermore, experts have problems to read the Israeli signals properly.

Since March, we have been in a situation of great uncertainty. And markets hate uncertainty. However,
should it be clear that those scenarios are false, markets will rally. Should one of the two worst case scenario come true, markets will dive. In the meantime they are volatile and under pressure.

Greek Swap File

Bloomberg has reported that the ECB is not going to disclose a report of Greeks' swap transaction with Goldman Sachs. The Bank helped Greece to access the EU by selling them dubious swap transactions which hid the countries debts and deficit.
ECB's Monsieur Trichet has been quoted: “The information contained in the two documents would undermine the public confidence as regards the effective conduct of economic policy...” and “... in the current very vulnerable market environment, the substantial and acute risk of adding to volatility and instability.”

Needless to say that this swap has damaged the Europes citizen.
 Anyone Euros or Greek bonds?