“The main problems in Europe are the “sell first and then ask questions” attitude of market participants, the lack of political and policy leadership, and the uncertainty of where to find a new home for the bonds of what we like to call “higher-yielding Euro sovereigns.” Sentiment will not stay in panic mode for long. But the lack of leadership in the Euro area is institutional and will remain. In addition, the long-held assumptions are that all European government bonds are safe and liquidity is damaged. This risks turning some of them into an orphan asset class, in search of a new home. If higher-yielding Euro sovereigns are not safe in govies, credit, or EM, then what are they and who will be their natural holder? In due time, this asset class, with higher risk and return than other, safer govies, will find a home, but the transition will take time, challenging the funding of a number of Euro governments. “
The correction in global equities is so far very similar to the June and January ones (chart, next page). Both started from technically overbought levels, took three weeks, and cost 8% in price terms—similar to the last three weeks. But the current correction has not bottomed yet. The June correction ended with stronger economic data, while the January correction bottomed in early February with the EU Summit promising financial support to Greece. We are similarly getting stronger economic data today, including a great US payrolls report, and there is a decent chance of new policy measures next week. But risk cutting does not seem over, and the cavalry may not be at full strength. We are cautious.
Everyone is cutting risk
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