A Greek Tragedy and Other Woes

“Do not confuse motion and progress. A rocking horse moves but does not make progress.”- Alfred A. Montapet

To have a grievance is to have a purpose in life. A grievance can almost serve as a substitute for hope; and it not infrequently happens that those who hunger for hope give their allegiance to him that offers them a grievance. – Hoffer

The economic woes of Greece have dominated headlines and investor concerns over the latest quarter. As the quarter ended, the negotiations between the lenders (Germany and Brussels in particular) and the Greek government had reached an impasse after months of activity with little progress. A default by Greece on 1.6 billion Euros due was a certainty. At the time of this writing, a referendum in Greece was scheduled that would give the current government the authority to accept more austere bailout terms. The mood of the Greek electorate has deteriorated from the great hopes that the Euro loans had created to increasing resentment of the austerity imposed when the debts came due. The government of prime minister Alexis Tsipras that was elected on a wave of “austerity” grievance has been less than successful in staring down the country’s creditors.

As a result of this ongoing uncertainty, as well as other global economic and political imbroglios, global markets had little to cheer in the second quarter of 2015.

            Canadian Dollar                       US Dollar
Q1 Q2 Q3 Q4 YTD Q1 Q2 Q3 Q4 YTD
Toronto Stock Exchange 2.6% -1.6% 0.9%
S&P 500 10.1% -1.2% 8.8% 1.0% 0.3% 1.2%
MSCI EAFE* 13.7% -1.8% 11.6% 4.2% -0.4% 3.8%
91 Day T-Bill 0.3% 0.2% 0.4%
DEX** 4.2% -1.7% 2.4%
CDN/US dollar -8.5% 1.6% -7.0%

* Europe, Asia and Far East Index

** Canadian Bond Universe Index

Given that the Greek economy represents only 1.8% of European GDP and around 0.3% of global GDP, it is reasonable to ask why this crisis has caused so much consternation throughout the world. Greece is only the first of the Euro nations to hit the wall. Not far behind are much larger economies such as Spain, Italy and Portugal with their own debt crises looming. Either outcome in Greece will not be a panacea from the point of view of the Euro nations. Above all, they do not want to set a precedent that it is acceptable to borrow far more money that you can ever repay without substantial consequences. Alternatively, if a compromise is not reached and Greece leaves the European Union, the resulting meltdown in the Greek economy may force the nation to turn to Russia for aid. Russia would covet access to the Mediterranean, particularly with the loss of ports in Syria. In a recent poll by Pew Research, some 60% of Greeks view Russia favourably. Given the incursion of Russia into the Ukraine and fears of greater Russian hegemony, this would only foster more geopolitical uncertainty. A vote to leave the Euro would likely embolden anti-Euro parties in other countries. If by some chance Greece were to leave the Union and regain a more solid footing in the next few years, pressures to dissolve the Union would gain further traction.

Problems in China have also been of growing concern to investors. At the end of the second quarter, the long suspected bubble in the Chinese stock market appears to have burst as the Shanghai declined over 7% in the final month and continued to decline thereafter. As largely margin borrowing financed the market advance, margin calls are perpetuating this decline for the time being. The slowdown in the growth of the Chinese economy to around 7% has continued to impact commodity price expectations, particularly in base metals and coal.

Tensions in the Middle East perpetuate fears of instability spreading from that region. Ongoing emigration from the Middle East across the Mediterranean is adding to tensions in Europe.

The US economy stands out as it continues to exhibit positive growth. Employment has achieved pre-financial crisis levels although wage gains have to date been lacklustre. Speculation continues as to the timing of a rate increase by the Federal Reserve but the strength of the US dollar remains a concern.

Low interest rates, combined with low growth prospects, have exacerbated a global boom in mergers and acquisitions (M&A). For the year to date over US$2.8 Trillion in global M&A activity has ensued; half of which is in North America. Much of this activity has been in the energy sector as companies with the wherewithal take advantage of their weaker compatriots in this sector that is still reeling from the dramatic decline in oil prices last year.

Despite some recovery in oil prices in the second quarter, the Canadian economy is still adjusting to the effects of the decline as they reverberate throughout the economy. Recent months have exhibited negative growth in GDP raising concerns that we may be in a technical recession (two consecutive quarters of negative growth).  There has been talk of a possible rate cut by the Bank of Canada in an attempt to spur growth despite concerns about the over-indebted consumer. The possibility of a rate increase in the US and a decrease in Canada will put downward pressure on the Canadian dollar in the short term.

Within this environment, we are not anticipating robust earnings from the corporate sector over the next few months. We have already seen some pullback in stock prices that could be further eroded in a choppy earnings season. This is a good period to be looking to position portfolios for the next few years in those companies that will ultimately prosper from current conditions.

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