Grading on a Curve

07/29/2010 11:38 am EST


Igor Greenwald

Chief Investment Strategist, MLP Profits

European banks, stress-tested by the people in charge of not letting them fail, turn out to be—wink-wink, nudge-nudge—the very paragons of prudence.

Only seven of the 91 were deemed to need additional capital to weather the double dip, under a suitably glum worst-case scenario. Of the seven sacrificial lambs, the German and the Greek ones were already in government hands, and the five similarly sickly Spanish thrifts have been effective wards of Spain and the European Central Bank for months. This wayward flock will need to scare up just $4.5 billion in fresh capital, a pittance next to the $75 billion some of the largest US banks had to raise last year after a similar exercise.

But the devil, for once, was not in the details. Whatever their shortcomings, the stress tests seem to have, for the moment, soothed Europe’s credit heartburn. Spain sold debt, and so did several of the big banks sporting the new official seal of approval.

As if to compensate for the embarrassment of applying an American cure, the head of the ECB challenged the world to wean itself of stimulus once and for all. The rest of the world politely turned down Jean-Claude Trichet. We live in a world where Chinese central bankers quote Milton Friedman, but it is not a world prepared to forego jobs for the sake of ideology.

As Bank of England Governor Mervyn King said this week, “we cannot be confident that the recovery in demand, output, and employment … can be sustained.” And as for Trichet’s austerity crusade, “the debate is about the appropriate degree of stimulus, not about applying the brakes,” King said. Even the Friedman-loving People’s Bank of China is only “cautiously optimistic”given “some signs of easing” in the economy.

It would be fascinating to learn whether the stimulus crowd or the austerity lot was right, but of course our shared economic fate means that both will take the credit if things should go better. And if they don’t, it will be a very large circular firing squad. 

The verdict in the financial markets is that it really doesn’t matter if Europe gets rubbed raw by its hair shirt, so long as Asia and Latin America continue to boom, and assuming no double dip in the US. Shanghai stocks continue to rebound, and Europe put together another six-day win streak before Wednesday’s stumble.

Plenty of European and UK companies are in fact plays on the growth of emerging markets, and Deborah Owen suggests several with a decade-long track record of success. Meanwhile, Benj Gallander notes that Canada’s largest REIT is increasingly sniffing out real estate bargains south of the 49th parallel. Given the disparities in Canadian and US property values, that seems like a promising strategy for boosting what is already a generous yield.

At the other end of the risk spectrum, China’s leading fish farmer is a very small fry dependent on the vicissitudes of US-China trade relations, among other hazards. But with shares recently selling below the liquidation value of the company’s assets, the potential reward is just too tempting, writes J. Royden Ward. He seems to have captured the markets’ mood.

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