For investors, does the debt crisis in Greece represent a financial threat to Europe—or just a speed bump?
Despite continuous attempts by media outlets and certain market commentators to convince us otherwise, financial market volatility has actually been quite a bit lower than normal during the past five years. In fact, we have rarely seen a period with better risk-adjusted returns in both stocks and bonds in the US.
A lot of this has to do with the fact that financial assets were quite undervalued after the crisis and so they naturally recovered as the crisis subsided. The other reason, though, is that central bank policy has been extraordinarily generous and provided support to risk assets whenever they hiccupped.
Current events in Europe are creating another such situation that may lead to less-than-expected market volatility. Specifically, Greece has decided to take a hardline approach in renegotiating its bailout by risking its membership in the Euro Zone as a means of winning concessions from its creditors on fiscal austerity and tax hikes.
However, these leaders fail to recognize that Greece dropping the euro for its own currency does not hold the same threat it may have just a few years ago. The primary reason is that such a move does not engender the same financial contagion risk it once did. Thus, threatening to leave is not as much of a bargaining chip as perhaps its leaders believe.
There have been several important developments in the past several years since Greece was initially bailed out by the “Troika”—the European Central Bank (ECB), the European Union and International Monetary Fund (IMF). First, the ECB now has many more tools—including an unlimited Quantitative Easing program—at its disposal; it also has the ability to act aggressively to protect other European markets, if necessary.
Next, the European economy is on much better fundamental footing at this point, with aggregate fiscal and current account surpluses. Finally, European banks no longer hold much Greek debt on their books, nor do other global financial institutions.
In a sense, the Greek insolvency has been ring-fenced, leaving our constructive, global recovery thesis intact. No doubt, there will continue to be moments of doubt along the way, but we remain convinced investors should take advantage of these moments with a particular focus on public equities in Japan, the US and Europe. Within emerging markets, Indian equities and China H-shares remain at the top of our list.
For more insights from Mike Wilson and the Global Investment Committee, contact a Morgan Stanley Financial Advisor.