Why It’s “Mayday” For the Euro… And What You Should Do
by Alexander Green, Chief Investment Strategist
Monday, March 8, 2010: Issue #1211
I’ve often said that it’s not possible to predict stock markets, commodity markets, bond markets or currency markets consistently and accurately.
But there is an exception: when both valuations and sentiment reach severe extremes simultaneously.
That’s what happened with the dollar a few months ago. And, seeing the planets in alignment (as I’ll explain), I immediately wrote a column, predicting that the greenback would soar in the months ahead.
As is the case with most contrarian calls, my message was met with immediate catcalls and derision from respondents. Readers e-mailed me that a weaker dollar was a “no-brainer.” With the size of our budget and trade deficits and nearly $60 trillion in unfunded liabilities, they insisted, the U.S. currency had nowhere to go but down.
But, oh, how times have changed…
Less than three months later, the euro has plunged 10% against the dollar. And it will almost certainly fall further.
Fortunately, there is plenty you can do to protect yourself – and profit. Here’s how…
Spanish Decisions… Made in Germany
Anyone taking even a sidelong glance at the news knows that huge budget problems in Greece are undermining the euro. In response, Athens is proposing serious austerity measures to shore up the country’s finances.
But this is just a finger in the dike. There are other leaks in the euro that are ready to spring in Portugal, Italy, Ireland and, especially, Spain.
Imagine for a moment that you’re a Spaniard:
- Your country has a 19% unemployment rate,
- A deflating housing bubble,
- Enormous debts
- And a gaping budget deficit.
Your economy contracted 3.6% last year and is likely to shrink again this year, leaving Spain in its deepest and longest recession in more than 50 years.
But there’s a bigger problem…
Because Spain is a member of the 16-nation eurozone, it can’t devalue its currency to make its exports more attractive, or its sunny beach resorts cheaper. Why? Because the euro’s value is driven by Germany’s bigger, more competitive industrial economy.
Furthermore, Madrid can’t slash interest rates or print money to spur borrowing or spending, because the European Central Bank now makes those decisions in Frankfurt.
In other words, “Goodbye, Spanish autonomy… hello, recession.” And “Tim-ber!” for the euro, which is vulnerable, overvalued and is now enduring concentrated attacks from hedgers, speculators and hedge funds.
The Eurozone’s Dangerous “One-Size-Fits-All” Policy
Don’t get me wrong. The euro isn’t going to collapse like the British pound did in 1992 when George Soros booked a $1 billion profit in one day by shorting the euro.
The euro is an extremely deep market, with over $1.2 trillion in daily trading volume, dwarfing the British pound’s daily volume in 1992.
But the euro has a major structural problem – one that investors were much more wary about when the currency made its debut 15 years ago. You have widely disparate European economies all tied to the same central bank policies. And now the cracks are beginning to show…
The eurozone economy will grow much more slowly than the U.S. economy this year. And Fed chairman Ben Bernanke is likely to start raising short-term interest rates sometime in the second half of the year.
(Bear in mind, the rate increase won’t be due to a substantial increase in inflation. That’s unlikely. Bernanke will raise rates to signal that the world economic crisis is abating and to put some arrows back in his quiver. After all, you can’t cut rates if they’re already at zero.)
And this move will be bullish for the U.S. dollar. So what should you do?
Three Moves to Combat a Strong Dollar-Weak Euro Scenario
As I’ve said for the past few months, here are three moves to combat a strong dollar-weak euro scenario…
- Pare back on holdings of euro, pound and yen-denominated bank accounts and bonds. A stronger dollar will hurt these the most.
- Maintain your exposure to European and other foreign equities. If you own the right stocks, especially exporters, their capital appreciation can outstrip a negative move in the local currency.
- If you want to be even safer, there is one – and only one – exchange-traded fund (ETF) that hedges away all currency risk for dollar-based investors. It’s called the WisdomTree International Hedged Equity Fund (Nasdaq: HEDJ).
Expect to see it near the top of this year’s top-performing international exchange traded funds.
Good investing,
Alexander Green
Related Investment U Articles:
- There Goes the Euro… Again: Why the U.S. Dollar is Set to Rebound Against Europe’s Single Currency
- How to Play the Collapse of the Euro
- When One Vote is Worth 15 Billion Euros
- Why You Probably Don’t Want to Hold Euros in 2011
- Enough Dra(ch)ma: The Euro Will Thrive… When PIIGS Fly!
8 Responses to “Why It’s “Mayday” For the Euro… And What You Should Do”
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Alexander Green is the Chief Investment Strategist of Investment U. A Wall Street veteran, he has more than 20 years of experience as a research analyst, investment advisor, financial writer and portfolio manager.
What about Proshares euo ultra double short usd euro
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Dear Alexander and all at Investment U,
Have you not heard that Germany and France are setting up a European Fund, to pull all of the EU countries who are in trouble out of trouble so to stop the IMF from taking over them all. Please comment how things will be if this happens.
Regards,
Patrick O’Sullivan
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Mr. Green, do you have any suggestions for the EUR/USD trade in the forex market? I just started a forex class in Jan.2010. Where do you think the pair is going?
Thanks.
Michael Smith
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Mr. Green,
Nowadays every US trading newsletter writes about Europe’s so called heavy problems, and that the US Dollar will survive!
My opinion is quite different there. Since before that time all I could read, that nobody should own US Dollars, because of the massive debasement of the money, which is still being performed by the FED heavily.
Now the Euro problem is a very good topic for everyone, because you do not have to speak or write about the USD, and the real problems of the USA, which are fare worth. I would suggest you to listen to Mr. Ron Paul in this respect.
Further I suggest, that you should clean at first the pantry of the USA before going against the Euro. This deal might go very wrong.
Best regards,
E. Papp
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I agree. For the past two years I’ve been reading about how the Euro is doomed but I don’t see it happening.
Yes, they have high unemployment but many people in Europe own their home free and clear and are therefore better prepared to weather the storm.
(I have friends and relatives living in Europe so I know this to be the case).
Property taxes are much lower than what we pay in the U.S. and many people don’t even need property insurance since their houses are made of stone, brick and cement while we live in straw houses made of sheet rock and pine wood (even though most tornadoes happen in the USA).
Most European countries enjoy an excellent and affordable health care system.
Finally, I haven’t noticed much of a drop in hotel prices and airfares to Europe. The rock bottom airfare prices are mostly in the US.
Right now the only advantage of living in the US is that we can go to “Best Buy” and buy lots of gadgets at a good price.
We have big guns and gadgets but not much else.
ace2010
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So how does this thought affect the 20 year Treasury note?
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Alexander Green has changed his tune. What happened to the advice to buy cds denominated in the now defunct Iceland currencey
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Although the Fed should have been raising interest rates long before to curb the bubble in the stock market, I doubt that you can look to the Fed to raise interest rates soon. That is what would be needed to propel the USD much higher. Before the Fed raises interest rates it would like to see at least 2 consecutive quarters of declining unemployment. Furthermore, starting in the 3rd quarter of 2010 many option ARMS mortgages come due for reset. Amid the resultant chaos, the Fed would be very reluctant to raise interest rates. However, everything is relative and the euro still remains a flawed currency for all the reasons stated. So do I hear 1930s style competitive currency devaluation?
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