Markets have been feeling happier since we last posted . Europes political paralysis has given way to the first signs that a number of European Banks will be recapitalised and that steps will be taken to defend the Euro. These interim measures will be followed, sooner rather than later, by steps to integrate eurozone fiscal policy and issue mutually guaranteed eurobonds. There are a host of legal and political obstacles to cross before the necessary treaties are signed but this is what will eventually happen.Smaller countries may complain but Merkel and Sarkozy recognize the obvious.
For investors these measures provide reassurance that the world will not fall into a steep recession. They do however come at a cost . Banks will have to take a 50% hit on their Greek ( and possibly Irish and Portugese ) holdings. This will mean they have less to lend which will in turn accelerate the slowdown in credit growth to the wider economy. The eurozone's banking system has $2.1 trillion worth of exposure to Portugal, Ireland, Italy, Greece and Spain. Assuming that another 30% has to be written off then $630 bn has to be found from somewhere. In short it is hard to see much GDP growth in Europe at a time when banks are having to preserve their capital base by reducing the availability of credit.
This leaves investors in a strange position . Armageddon is unlikely to happen but we are heading towards a new world in which growth remains elusive as banks deleverage. After the recent strong rlief recent rallies expect upside momentum to fade a little from here . However there is more good news out there . US growth seems to be re-emerging , albeit feebly; European survey data is likely to surprise and show that Q3 was a quarter of growth, the private bond market is creaking back into life ( Deutsche Bank issued 2 yr paper ), Asian exports have not collapsed and the Chinese government has stepped into buy bank shares on the secondary market .
Blue Chip Stocks with a good dividend yield continue to be an asset class that should be added to if there is another , Jeremiah driven , bout of indiscriminate selling.