In memory of Dr. Andreas Höfert

Still not out of the woods

The Greek parliamentary election did not trigger the “Drachmageddon” that analysts feared. Greece is still in the euro, but the nation is not in the clear. Nor is the crisis solved.

With this election behind us, we can say that the likelihood of a Greek exit within the next six months has been considerably reduced. The traditional “pro European” parties, New Democracy and PASOK, which by the way led Greece into its current misery, managed to get a majority of seats in the parliament.

In the coming weeks, crucial negotiations will take place between the new Greek government and the Troika composed of the European Union, the European Central Bank and the International Monetary Fund. It is important to remember that both New Democracy and PASOK have campaigned on promises to renegotiate the Memorandum of Understanding. While the negotiations will likely be constructive, because there is a clear financial interest for both the Troika and government to keep Greece in the Eurozone, the talks could create uncertainty.

Even if these talks are fruitful, in our view the fundamental problem will remain: Greece will not be able to comply with any austerity plan bringing it back on a stable debt trajectory if its current debt is not further reduced, i.e. without another default. Hence, we still see a high likelihood that Greece may be forced out of the Eurozone at a later stage, in 18 to 24 months.

The markets were not fooled on Monday after the election. An initial relief rally lasted only for a couple of hours, then among other reasons, due to the continued rise of Spanish government bond yields to unsustainable levels, the European and US exchanges closed negatively.

The G20 summit was blandly disappointing, not generating any hint of solution to the current crisis. So everyone anxiously awaits the European summit at the end of June. Should we see a pattern here?

British Prime Minister David Cameron recently expressed his frustration about the lack of progress after 18 summits in the past two years devoted to the euro debt crisis. And World Bank President Robert Zoellick put the finger right where it hurts: “European politicians always act a day late and promise one euro too little. Then, when it gets tight, they add new liquidity.”

The Eurozone construction site remains daunting, because solving the crisis means basically building the foundations of a fiscal union and a federal Europe, equivalent to installing load bearing timbers and a challenging task in calmer times, after folks have been living in the monumental but now shaky house for several years.

So we remain skeptical about the euro, European government bonds and more generally European markets for the time being, and need more clarity before we would load more risk in our portfolios.