Thursday, May 6, 2010

Germany's vote: The key to the next two weeks.

The unprecendented (we have never seen such a drop and immediate turnaround) action in the markets have led to many theories. Trader error, computerized trades, plunge protection team, etc. are all theories brought forward to explain what is a fat-tail event. At one point trading institutions were compounding the situation, and the Nasdaq and NYSE ended with their highest and second-highest volume totals respectively. The similarities to 2008 has been uncanny:

1. Iceland could be considered the Bear Stearns of sovereign economies. It fell first, and provided us with a sign of things to come.

2. The Club Med countries (Spain, Portugal, Italy, Greece, etc.) are all behaving similarly to the remaining financial companies in 2008. Their markets are all clearly falling, and they are bringing the Euro down with them.

3. Germany, one of the largest investing countries in Club Med, has hesitated in addressing the bailout. Like the US Senate, who hesitated on the economic bailout, members of Germany's controlling coalition are hesitant on accepting the bailout.

4. The feeling on the marketplace now appears in complete meltdown mode, and is now in a death spiral, with lack of confidence in counterparties and in the economies around the world.

With everything in turmoil, the biggest saving grace will be Germany's vote on the Greek bailout. If Germany votes unanimously to bail out Greece, it will provide some footing to the markets, and confidence that Germany will continue to support the Euro. If, however, German opposition and members of the key coalition decide to vote against the measure, either making the vote extremely close or even allowing the bailout to fail, the markets could go into freefall. With Germany investing in a substantial amount of the Club Med debt, I expect the vote to pass quite comfortably. But, I expect the markets to remain very skeptical of Spain, bringing them to the limelight in the next few weeks.

As I have stated before, I question the Euro's ability to survive the market action of the last 2 years (refer to my posts in October 2008 and January 2009). I personally feel that in order to survive, either all Euro countries need to accept devaluing the currency, or expelling the countries that cannot meet strict monetary disciplinary practices.

I am currently holding put options on NYSE:EWP (Spain) and NYSE:FXI (China), and intend on going short NYSE:EWG (Germany).

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