The European Union’s $1 trillion rescue plan will reassure financial markets for a while.
But at some point the bond markets are going to ask “So how are they going to pay for this?”
In the coming days you’re going to hear lots of comparisons between this $1 trillion plan and the $700 billion rescue package that the U.S. government put together to stabilizer the U.S. financial system after Lehman Brothers collapsed and American International Group threatened to head down the same path.
But there is one critical difference. The U.S. bailout transferred risk from the balance sheets of private companies to the balance sheet of such public entities as the Federal Reserve and the U.S. Treasury. The ultimate backstop, of course, was the U.S. taxpayer.
The European Union rescue transfers risk from public balance sheets at fiscally challenged periphery countries such as Greece, Portugal, and Spain to public balance sheets for the European Union as a whole.
In some ways this reminds me of the financial engineering Wall Street practiced during the subprime mortgage boom.
If you took enough risky debt, Wall Street argued, and packaged it all together you would reduce the risk of the whole deal. Not risky assets would go down at the same time.
Well, that turned out to be wrong.
And I have to wonder if the idea of packaging the risky debt of Portugal, Greece, Spain, Italy, and Ireland all together will ultimately work any better.
The final backstop for this rescue is composed of the taxpayers of France and Germany. They are the countries that have pledged the most to the rescue. They are the strongest economies of the European Union. And they’re really the only countries that might conceivably have the resources to actually pay off on the guarantees of this package.
But France and Germany aren’t exactly swimming in cash. The French budget deficit hit 7.5% in 2009 Public debt climbed to 78% of GDP in 2009. That’s up from 68% in 2008. In March Insee, the French national statistic office, projected that debt levels will rise again in 2010, hitting 83% of GDP. Debt levels, Insee calculates, won’t begin to fall until 2013 from a level of 87% reached in 2012.
That leaves the German taxpayer to carry a huge share of the burden. And it’s pretty clear that even if the German economy, the strongest in the Euro zone, could, the German taxpayer isn’t in a mood to pony up.
Over the weekend, voters in the German state of North Rhine-Westphalia dealt a stunning defeat to the Christian Democrats and their leader Chancellor Angela Merkel. The vote cost the Christian Democrats their majority in the upper house of the German legislature. Politicians in Germany pin the defeat on voter anger over the bailout package for Greece. The state is part of the historical industrial heartland of Germany and has been hard hit by the decline of German industries such as steel.
With that as a first indicator, I wouldn’t say that the leaders of the European Union can count on German taxpayers to go along with rescuing the rest of the troubled economies of Europe.
In other words, I think that today’s package will produce relief in global financial markets and will buy time for the European Union to work on a solution, but I don’t think it marks the end of this crisis.
And it would behoove the United States and other deficit nations to use the time to put together their own plans for a return to fiscal responsibility.
Think that’s likely?
Mr. Majestik,
Good point! After awhile, it just seems like funny money…
Seaturtlelady,
First off, give yourself some credit. I’m sure you’re much smarter than you let on.
I have a formula, but it’s not magic. It seems to be fairly predictive, so I use it — but I couple the information with current events and corporate press releases, and other expert commentary (from people like Jim, ratings agencies, Morningstar, etc). When the numbers are close, and the conclusions from the facts align, I have confidence that I’ve calculated correctly and buy / sell based on the info. I also use my own numbers to verify that Jim and the (sometimes wrong) ratings agencies make sense. If the numbers don’t add up, I don’t take their advice.
There are plenty of good publications out there to help you do these calculations for yourself. To start with something easy, you could get a “For Dummies” book on investing. I’m sure you could also scour the internet for free information – Morningstar is a great place to start. And you should definitely buy a copy of Jim’s book.
To sum it all up, if you can determine what you would be willing to pay to buy a company, and you know how many shares are outstanding, you can determine the target price / share. Only buy if the current price is significantly below the target price.
twoyrfixed
One small correction: that’s 17% (USA’s contribution to the IMF) of 250 billion euros, not 250 billion dollars. That would be about $320 billion.
It just makes you sick, doesn’t it?
NB,
I’ll add one more thought to your question. Since George W and the Dems decided to remove the tax hit to a defaulting homeowner, we’re awash in incentives to do the wrong thing.
Simply put, those that acted the most irresponsibly (Citi, Alt A borrowers, GM, etc.) have received the most benefit.
What’s that old saying. Capitilism without failure is like religion without sin? But, as others above have pointed out, we had NO CHOICE (in my opinion) to do what we did 2 years ago. However, you don’t have to be Michael Moore to question the wisdom of not SEVERELY penalizing those who caused this mess.
Lastly, what’ 17% of $250billion plus 8Billion more to the GFE’s? Just another day at the printing press I guess.
I’m sure the German populace won’t mind eating cabbage and potatoes to provide the money for Greeks to eat goat and olives. The Greeks will view it as business as usual, the Germans can wax nostalgic about post-WWII shortages — everyone will be happy.
USDAportfolio…
Is there some magic formula for figuring out what stocks are undervalued or is it one of simplicity for simpletons like myself and a few others on here?? I would be most appreciative for someone to give a specific example of the “how” to for such.
Thanks a bunch!
USDAportfolio – I wouldn’t worry – IMO “buying” opportunities will be plentiful in the next couple of weeks.
bobisgreen, et al. – if an obviously political person like EdMcGon can hold his tongue and keep this site for investing, not politics, you too should be able to.
We are in the beginning of a virtuous cycle of positive feedback for companies, especially good companies. The news on almost all fronts is getting better and better, and is quickly getting priced in. By a rough glance at my calculations, roughly 20 – 30% of stocks (I follow) are undervalued, and many of the ones which I think are overvalued are just awaiting good news to confirm the higher expectations priced into the shares.
Two reasons the rally will continue: 1) Bonds at 0 – 5% look terrible compared to stocks when inflation begins to pick up. Investors will drop bonds and buy stocks as the inflation numbers point up. 2) The trouble with the Euro presents a terrific new currency to fuel the carry trade.
I was otherwise occupied and missed my chance to buy on Friday and this morning. Damn! (See my previous post where I warned this community not to be too greedy, or you’ll lose your fat pitch opportunity.)
I’m curious to hear — if anybody else is performing “fair value / target price” calculations — what percentage of stocks you follow are still undervalued?