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Expect some volatility after Greek and Egyptian Elections

June 16, 2012

First, I want to apologize to my readers and followers for having been absent for so long. As the markets were going only one way since I last wrote something, there was not much to say. Conversation is best at convex moments, when it could go either way. And it might happen next Monday.

G20 officials declared smartly, on Friday 15th of June, that central banks are ready to act to calm markets if needed. “Action” for a central bank means providing liquidity to banks or lower interest rates. The ECB seems ready to do the latter (it was about time for this big change. Inflation won’t be back so fast, says Peter Praet) while the Bank of England will prefer the former. But is that enough? There are not many possibilities: Solving the crisis will save the currency. We are (or not) at the eve of major political choices to be made in Europe. Simply because economic actions didn’t work, and the only remaining and yet untried “political toolbox” is supranational, federal: We are moving towards a more federal Europe. Only a stronger European integration can solve the crisis and save the Euro.

Even if Syriza win the elections on Sunday, Greece will have to commit to the bailout conditions or lose access to any aid. It means, “default” within a month. But Syriza feels strong because the €100 billion granted to save Spanish banks is a proof, according to them, that blackmailing the Union may carry fruit. Wrong bet, I bet.

The markets on Monday will therefore be driven by 3 probability sets:

1)   The probability of more harmonization across the Eurozone to happen within a couple of months;

2)   The probability that Syriza, if they win over New Democracy, forms a government courageous enough to risk returning to the Drachma;

3)   The probability of Spain, Italy, Portugal and Ireland (after Greece) to need a full state bail out within twelve months.

No wonder, then, the € strengthened, the equity markets are up: every speculator is covering his/her short positions because everyone has a different view on these issues and you can’t model political risk, even if you are a rocket scientist.

On Sunday, Egyptians will be voting too. Their choice will have to be made between an ex-military, close to the old regime, and the Muslim Brotherhood’s candidate. As if it were a choice. Either way, I fear there will be turmoil in the streets of Cairo. The Middle East will not be stabilized tomorrow. Oil prices will probably be more volatile too.

It is worth buying some VIX (volatility index futures traded on the CBOT) here at around 23. They were at 28 in mid may, and expectations of volatility should be much higher on Monday than they were then. If equity prices crash, I would buy, European blue chips (CAC40 or DAX). Most of them make the vast majority of their benefits outside the Euro zone anyway. As for fixed income, no change. Quality corporate bonds.


From → Markets view

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