Can the EU Survive The Syrian Refugee Crisis?

Europe, still here

It’s been a tough few years for the Eurozone. Between the ongoing debt problems and the pervasive deflation Europe has seemed to be on the ropes consistently since 2008. Somehow the Union has continued to survive, despite being constantly assailed by financial crises, rejected constitutions and now referendums on future membership.

What all these problems represent is the failed integration of the European people into a “European people”. Despite years of effort Germans are still Germans, French are still French, and Brits are still Brits. In fact, far from creating an integrated whole where a common identity is shared across the continent, many countries face challenges about their own integrity. The Scottish nearly became a country separate from Great Britain, in Spain a Catalonian independence party recently won big, and don’t get me started on the issue in Belgium. What this all means is that national self interest still trumps European self interest, and so while Greek problems affect everyone they remain primarily Greece’s problems in the eyes of many.

Boat People

Meanwhile interest in being part of the EU is on the wane, with Britain scheduled to have a referendum on its future involvement leading a general trend about Euroscepticism. In Holland a whopping 83% of voters want greater say about transfers of power to the EU. On December 3rd, Denmark will be voting about changing its “opt-out” status into “opt-in”, but the anti-euro sentiment is growing and while a pro-EU yes side seems to be winning, it isn’t winning by much.

Other countries that had sidestepped EU membership are decidedly more firm about not joining. Norway’s initial membership was ultimately rejected by a small majority in the 1970s, today pro-EU support in Norway is only around 20%. In Iceland, a country that has had a pending request to join the Union for some years let its membership request lapse this year, citing that its future is better served outside the EU.

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Into this mess is the migrant crisis, which while currently focused on the Syrian refugee situation has been a much longer issue including the abundant number of people risking life and limb crossing the Mediterranean from North Africa. But despite how moving the plight of the refugees has been, including the sad picture of a little boy drowned on a beach in Turkey, the German response of “no upper limit” for refugees seems to have already hit it’s upper limit. The President of Germany, Joachim Gauck, has said “Our reception capacity is limited even when it has not yet been worked out where limits lie,” a sentiment that has been echoed by other German politicians and an increasing number of Germans themselves.

With 10,000 refugees arriving daily into Germany and still boatloads more coming into the south coast, Europe is finding itself stretched to the limits about how to deal with such an influx of migrants. The scale of the human suffering that is prompting these moves makes it often impolite to discuss the nuts and bolts of taking so many people at one time, and objections raised by critics are quickly shouted down as racist. But with more than 800,000 refugees this year expected by Germany there are calls to fairly distribute the asylum seekers across Europe, a call meeting mixed to negative responses by many nations.

Much of the focus on Europe’s woes has been about financial matters, but the EU has aimed to be more than a financial union, it has sought a social union as well. And while Europe’s financial problems are well understood and the response to those problems have been unified, the social integration is far from even. Germany may have taken a stand for enlightened moral behavior in accepting so many people, but they notably don’t speak for many other nations, neither rich like Britain (a promise of 20,000 over the next five years) or poor like Greece who had 50,000 people arrive in July alone.

And despite whatever successes the EU bestows upon member states, a future European Union may be a looser European Union in the end, in itself a promise of more instability for the future of Europe.

I’m So Tired of Europe

hu·bris

noun
  • excessive pride or self-confidence.
  • (in Greek tragedy) excessive pride toward or defiance of the gods, leading to nemesis
Who doesn't want to love this place? AMIRITE?
Who doesn’t want to love this place? AMIRITE?

I love Europe. I love it’s culture, its cities and architecture and the pace of life. I think in many ways Europe seems more usefully progressive, with things like public transportation and even energy. But god I am tired of hearing about Europe. Since the beginning of the financial crisis Europe has become the wounded, but never dying, member of some ill fated expedition. Every time the expedition seems likely to escape their fate, Europe goes and breaks an ankle…or something.

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From an investment standpoint Europe makes a lot of sense. It’s the largest economy on the planet. It’s highly industrialized and very productive. It has created one of the largest economies by knocking down trade and exchange barriers between nations. It has many multi-national firms, advanced R&D, and exports much to the rest of the world. And yet it constantly represents a problem for investors.

I believe the source of that problem may be hubris. There’s not a lot of science around that statement, there is no Hubris Index to track (although that would be neat!), nor is there some ratio to calculate. But there is a pattern of behavior that seems to lend itself to such an analysis.

Caricature_gillray_plumpuddingWe should be clear though, you need hubris to do great things. Name a nation that has attempted to reach beyond it’s grasp and risen to great military and economic might and you will uncover a great deal of pride and arrogance. But something must temper that pride or what could have been great becomes the next Greek crisis.

Europe’s problem is that it seems to have little regard for the inner voice that advises caution. The Euro Zone, initially an economic endeavour to improve financial and diplomatic ties (the belief is that trading partners don’t go to war with each other) has spilled out into a messy, difficult and byzantine organization that has had a difficult time following it’s own rules. It has rapidly expanded into new markets, making it’s non-EU neighbors (like Russia) nervous about it’s intentions. It has turned countries with no business being part of the EU into powder-kegs ready to disrupt the whole experiment.

Ya, this isn't a joke. This is a real law that real people spent real time making.
Ya, this isn’t a joke. This is a real law that real people spent real time making.

Europe has lots of problems, but almost all of them are their own making. Greece may have borrowed the money that exploded their debt, but French and German banks lent them that money. Concerns that a Greek exit from the Euro could trigger a domino effect as deeply indebted nations choose default over austerity is also the  result of hubristic action. Countries like Spain and Ireland were hit with austerity because the government bailed out the banks, not because the government had mismanaged their finances.

Dumb EU 2

Europe’s desire to expand the mandate of the EU from economic integration into integration has also eroded a great deal of natural support. Exhausting, silly and pointless rules have caused nothing but ire within member states, and attempts to push through a new constitution within Europe were met with such local resistance, the whole things has been on hold.

All of this reeks of arrogance and overreach. But Europe has done this to itself, and the more we continue to hit regular road bumps on the road to financial well being, the more it looks like Europe is undoing it’s own purpose. It’s no surprise then that the economy that has recovered the quickest from 2008 has been the one supposedly worse hit. The United States has remained the foremost place for investors, safer, faster growing and more profitable than Europe. Europe, who is still dealing with the same problems of five years ago.

I’m so tired of Europe.

America Is In Great Shape; Be Afraid!

markets_1980043cAll year people have been expecting a correction in the US Markets. For most of the year I have listened to portfolio managers discuss their “concern” about the high valuations of American companies. I have also listened to them point out that America remains the strongest economy and the most likely to see significant growth in the coming year.

Flash forward to late-September, early October and the markets have finally had their corrections. At the bottom every market was negative, including the TSX which had given up all of its YTD high of 15%. That was the bottom. The recovery was swift, money flowed back into the markets, and hedge fund managers managed to make a mockery of some otherwise nervous DIY investors. Now the markets look strong again, with the S&P 500 reaching new highs. Nobody is happy.

All of this comes on the news that US GDP was up 3.9% in the third quarter, a full .5% above analyst expectations (that sounds small, but it’s worth billions) while energy prices continue to decline, manufacturing is highly competitive and US consumers look poised for a significant Christmas bonanza. So what’s wrong with this picture? Why are both the Globe and Mail and the Financial Times worried about the US stock market?

https://twitter.com/Walker_Report/status/537581249440014337

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The answer is a combination of fear, data, and the insatiable need for stories to populate the media everyday. First is the fear. Stocks are at all time highs. The problem is that “all time high” isn’t some automatic death sentence for a stock market. The stock market always hits new highs all the time, and a by-product of that is that corrections can really only happen after a high is reached. Look at the history of the S&P 500 since 1960:

Screen Shot 2014-11-26 at 11.02.50 AMAs you can probably tell, there are a lot of “new highs” that had occurred over the last 40 years, but each new high did not automatically translate into some automatic correction. There were legitimate reasons why the economy could continue to grow, and in the process make those companies in the stock market more valuable. That isn’t to say that the stock market can’t be “frothy” or that their aren’t problems in the stock market today. It merely means that setting a new market high isn’t proof of an impending collapse.

The second issue is data. We live in an age of Big Data. Data is everywhere and there is so much it can be hard to separate the useful data from the useless. Some of the data is concrete, but much of it takes time to understand or even become clear. The first analysis of the higher than expected GDP numbers seemed great (more economy, Yay!) but upon closer inspection, there are reasons to be cautious. While the GDP was higher than expected, it was largely due to growth in government spending, not consumer spending. In fact consumer spending was lower quarter over quarter. In addition there are a number of concerns about how corporations are spending their profits and whether that is sustainable. Many of these concerns, when taken in context, seem to be the same from earlier in the year.

The third factor is the insatiable need to write something. Content is king in the news world and providing insight (read: opinion) means that you must constantly produce new stories to publish. That means that there is a need to be constantly suggesting that things are about to go wrong (or more wrong than they already have) to create a compelling story. It isn’t that these stories are wrong, just that constantly saying the stock market is going to go down isn’t insightful, since at some point we can expect the stock market to correct for one of a number of reasons.

So is America frothy? Are we poised an some kind of financial collapse? I don’t know, and nobody else does either. We are no more likely to correctly know when the market might correct again than we are to guess the future price of gas. The best response is to diversify, and remember some core elements of investing. Buy low and sell high. With that in mind sturdy investors should probably start giving the beat-up and maligned Europe a second look…

What Investors Should Know After Europe’s Terrible, Horrible, No-Good Month

cartoon spin bull vs bearFalling inflation, terrible economic news and a general sense of dread for the future seems to have once again become the primary descriptive terms for Europe. Earlier this year things seemed to have improved dramatically for the continent. On the back of the German economic engine much of the concern about the EU had been receding. 2013 had been a good year for investors and confidence was returning to the markets. Lending rates were dropping for the “periphery nations” like Portugal, Greece and Ireland, giving them a fighting chance at borrowing at affordable rates. But first came the Ukrainian/Russia problem which caused a great deal of geo-political instability in the markets. Then came October.

I don’t know if Mario Draghi cries himself to sleep some nights, but I wouldn’t blame him. Despite the best efforts of the ECB, Europe looks closer to being in a liquidity trap then ever. Borrowing rates are not just low, they’re negative, with the ECB charging banks to now to deposit money with them. October also ushered in a string of bad news. For Germany, easily the biggest part of the Eurozone’s hopes for an economic recovery, sanctions against Russia have hurt the manufacturing sector. Germany began the month announcing a steep and unexpected decline in manufacturing of 5.7% in August, the biggest since 2009. This news was followed by criticisms of Germany’s government for not doing more infrastructure investment and being too obsessed with their strict budget discipline. Yesterday 25 banks in the Eurozone failed a stress test, a test that was meant to allay fears about the health of the financial sector.

For Europe then things look bad and even if the situation corrects itself over the next few months (sudden shifts in the economy may not always be permanent and can bounce back quickly) the concerns over Europe’s future will likely undermine any efforts by the ECB to properly stimulate the broad economy and encourage investment on a mass scale. By comparison it looks like the United States is having a party.

The US economy seems to be on track to grow, and as the world’s biggest economy (though there is some dispute) the country is fighting fit and especially lean. Cheap oil from shale drilling is helping the manufacturing sector, making the United States more competitive than South Korea, the UK, Germany and Canada, and the sudden drop in the price of oil is a boon to the US consumer to the tune of nearly 50 billion dollars. Consumer confidence is up, as is spending. Debt levels are down, both for companies and households. Most importantly the economy seems to be tipping over into an expansionary phase, with corporations finally starting to put some of their money to work.

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The coming months could be interesting for investors as we return to a time where once again focus is on the US as the world’s primary economy.Screen Shot 2014-10-28 at 12.32.45 PM The concerns of 2008, that the American consumer was done, the country had seen its best days and its corporations would never recover seem far fetched now. Worries over hyper-inflation are as distant as a the never arriving (but inevitable) rate hike from the Federal reserve. Worries about Great Depression levels of unemployment are problems of other nations, not the US with its now enviable 5.9%, now encroaching on full employment. Old villains seem vanquished and even Emerging Markets, long thought to be entering their own golden era, are now taking a back seat to the growing opportunities coming out of the US.

Investors should sit up and take note. It’s possible that the best is still yet to come for the US markets, and if market conditions continue to improve this bull market could prove to be a long one.

Russia Invades Ukraine, Needs Potatoes

This Russian paratrooper crossed the Ukrainian border “by accident”

Last week it looked as though Russia was escalating its engagement in Ukraine, sending supplies directly into Ukrainian territory and potentially starting a full blown war. But things have remained opaque since then, with increasing reports that Russian troops were crossing the border and Russia steadfastly denying it. But after days of reports from the Ukraine that Russia had started a low level invasion to assist with Pro-Russian forces, CNN reports this morning that Russia is now using tanks and armoured personal carriers and is fighting on two fronts within the Ukraine.

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Whether this proves to be a false start, or if Russia is going to become more open in its military involvement it’s hard to say. What is clear is that this war in Ukraine is far from over.

Meanwhile this week also saw some evidence about the rising cost of food in Russia as a result of the retaliatory trade restrictions directed at nations like the United States, Canada and most of Europe. Reported in Slate and Vox.com, this graph of rising food costs is actually quite surprising. Potato prices have risen by 73%!

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I’m reluctant to say too much about this situation and what it means from an investor standpoint, lest people think I am taking the suffering of people in a war zone too lightly.  I will say that as emerging market countries become richer and begin to flex their national muscles, jostling over everything from important natural resources, long disputed borders, and sometimes even national approval, its likely that international events could increasingly be outside of our control. Since much of our manufacturing is now outside of our borders, and often even energy supplies come from nations openly hostile to us, we find ourselves in an economic trap of our own making. How can you act with a free hand against a nation that holds so many of your own economic interests?

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From “The Economist” July 27th, 2013 “When Giants Slow Down”

I sincerely doubt that our sanctions against Russia or high potato prices will bring Putin to his knees, (although his people may get fed up with higher food costs) but in the past it was much clearer how to deal with this kind of brinkmanship. Today we live a world where many of our economic interests are heavily tangled with nations who do not share our same strategic goals. It is said that nations do not have friends, only interests, and as Emerging Markets look increasingly attractive to foreign investors we may have to remind ourselves that Emerging Markets are not simply opportunities for growth, but nations with their own set of interests and goals separate from our own.

Russia’s Trade War Shows Europe to be The Better Economy

Putin-SmirkSince I first wrote about the Ukraine much has happened. Russia has been unmasked as a bizarre cartoon villain seemingly hellbent on destabilizing the Ukrainian government, assisting “rebels” and being indirectly responsible for the murder of a plane full of people. All of which came to a head last week when it appeared that Russia might have just started a war with the Ukraine (still somewhat indeterminate).

Russia’s moves with the Ukraine may have more to do with challenging the West, and some of the other recent militaristic actions show that may be its real intent. Russia announced in July that it would be reopening both an arctic naval base and a listening post in Cuba built back in the 1960s. Combined with many heavy handed tactics at home including essentially banning homosexuality, Putin is making a brazen attempt to assert its regional dominance and stem the growth of Europe’s influence in the most aggressive way it can. To some extent this seems to be working with his own population, but it isn’t making him popular globally.

Europe’s response to Russia has been to hurt it with economic sanctions, which since the Ukrainian situation first began have been escalating in severity. Two weeks ago Russia responded in kind. How? By banning food imports from sanctioning nations.

If you don’t know much about the Russian or European economies this may seem like potent response from one of the BRIC countries and major global economies. But Europe is a big economy, and agricultural exports don’t make up a significant part of GDP, with the same being true for the United States. And while sanctions targeted at farms can be politically dangerous (farmers are typically a well organized and vocal lobby) the most interesting thing about these sanctions is what it tells us about the Russian and European economies respectively.

First, Russia imports a great deal of food, mostly from Denmark, Germany, the United States and Canada. So sanctions imposed by Russia are really going to hurt the Russians as food prices begin to rise and new food suppliers (expected to be from Latin America) have to ship food farther. But more interesting is the sanctions Russia chose not to impose. Europe is heavily dependant on oil & gas for its energy needs. So why not really make Europe feel the pinch and create an energy crisis? Because Russia needs oil revenue.

16% of Russia’s GDP is made up from the oil and gas sector. Beyond that oil and gas make up more than half of Russia’s tax revenues and 70% of it’s exports. In other words Russia can’t stop selling its oil without creating an economic crisis at home every bit as severe as in Europe. Banning imports of food and raising the cost of living may not be the ideal outcome from sanctions you impose, but it is mild in comparison to creating a full on catastrophe.

By comparison Europe starts to look very good, and it’s a reason that investors shouldn’t be quick to write off Europe and all its recent economic troubles. It’s a large and dynamic economy, filled with multi-national companies that do business the world over. It is backed by stable democracies and a relatively prosperous citizenry. By comparison Russia is a very narrow economy, dependent on one sector for its economic strength run by a (in all but name) dictator with an incredibly poor populace. A few years ago it was quite trendy in the business news to write off Europe as a top heavy financial mess, and while I wouldn’t want to dismiss Europe’s problems (some of which are quite serious) it’s important to have some perspective about how economies can rebound and which ones have the flexibility to recover.

Taking a Second Look at Europe

One of the benefits of being a financial advisor is the occasional one-on-one meeting you get with Portfolio Mangers (PM) and the opportunities to pick their brains. This week began for me by sitting down with AGF manager Richard McGrath, a PM based in Dublin who helps manage some global and european funds.

This was great opportunity to get some first hand information about what is going on in Europe. Following 2008, the Eurozone, easily the largest economy in the world, has been hit pretty hard. Strict austerity measures and public unrest have long painted a picture of a Europe constantly on the brink of failure. 2011 was easily the worst year as Greece got perilously close to defaulting on its debt as Germany and the Troika (the European Commission, the EU Central Bank and the International Monetary Fund) played hardball looking for more political concessions from Greece.

The fact remains that big financial crises like 2008 have long tails, and Europe has been beaten-up very badly, with big reductions in their GDP, large unemployment figures and generally all-round bad economic news. And yet no storm lasts forever. Despite a difficult political structure, a burgeoning recovery seems to be underway.

Richard McGrath seems to think so at least, and I share many of his views. Some of the good news is really less bad news. For instance in Ireland continued austerity was expected to cut €3.6 billion from government spending, but as the economy improves that number has been dropped to €2.5 billion. There are lots of little stories like this helping to outline a general recovery in the Eurozone. Bloomberg reported on October 23rd that Spain had ended 9 consecutive quarters of negative economic growth, with an anemic 0.1% growth rate. Not great, but it still goes in the “good news column”.

It’s worth remembering that negative news abounds in the United States, but their stock markets have reached all time highs (again) and that after several bad years European markets have also done very well this year. But from the perspective of watching markets its important to take notice when GDP growth turns positive (Germany, France, Spain, UK – Societe Generale, September 9, 2013), investment flows start gaining (Societe Generale), all the while valuations are considerably lower, and therefore cheaper than other well performing markets (Thomson Reurters Datastream, October 21st, 2013). All of this points to one conclusion, you can’t trust the media. With it’s constant focus on negative news you might miss some of the best growth opportunities!