When I say “nothing new” I mean anything that isn’t a total
restructuring of the Euro. This should
be approached with either new rules/institutions (e.g. Eurobonds, EU backstop,
etc.) or with a change in members (e.g. weaker members leave, Euro disbands,
etc.). Status quo will not do - something new,
something systematic is required if some semblance of the Eurozone is to
survive.
What does not constitute something new is what I outlined in
my last post – Spanish bank bailout, and a Greek coalition to stay in the Euro. These are stop gap measures that will only
kick the can down the road. The market apparently
agrees.
So if Europe continues to kick the can down the road what
should we expect? More of the same from
late last summer to now:
- Downward pressure on the Euro vs. Dollar (i.e. the Dollar continues to strengthen versus the Euro, making your European vacations cheaper and our exports more expensive)
- Steep VIX futures curve
- The VIX is a forward looking volatility measure. The steep curve implies the market expects volatility to be greater in the future than it is now.
- Upward trend in yields of weaker EU countries (Greece, Spain, Italy)
- Downward trend in German yields
- Low Treasury yields
- Choppy equity market, perhaps range bound
How long with this continue? I am not quite sure, but I
would think the above trends will probably hold until there is a resolution one
way or another. That isn’t to say there won’t be movements
against the trends whenever some news comes out, just that over the course of
“kicking the can down the road” they will persist.
The ball is in Germany’s court.
Update: I wrote this a few weeks ago, but since
then there
has been a relatively big (well bigger) development – basically banks will
now be able to borrow directly from the ECB, not their own Central Bank.
I will comment more on this in my last post of this 3 part
series.
