All Eyes on Germany

09/07/2011 7:30 am EST

Focus: GLOBAL

Andy Waldock

Founder, Commodity & Derivative Advisors

Germany is about to make a decision that will have major implications on the global markets’ ability to get out of this economic miasma, writes Andy Waldock on Waldocktrade.

Last Monday morning, a client and I were discussing what had changed that would explain the shift in investors’ sentiment from safety to risk.

According to the several sources I read on a daily basis, my answer was that absolutely nothing had changed. All of the structural problems both domestically and globally were still on the table.

The stock market rally, as well as the support in copper, oil, and interest rates can only be tied to investors’ shortsighted expectations of economic policy going forward. Unfortunately, we all know that expectations can be quite different from reality.

The supporting arguments for the stock market’s continued success are usually tied to low interest rates, global trade, and positive earnings. Unfortunately, when these factors are put into the context of our current economic cycle, the long-term negatives will outweigh the short-term positives.

The historically low interest rates are due more to fear than they are a stable economy or falling inflation. When investors are willing to pay the US Treasury to hold their money, fear is clearly the driving cause.

The global trade argument has two flaws.

  • First, our companies doing business overseas are being paid with a US Dollar that is declining in value. The Dollar is only 4% off of the ’08 lows and is down more than 17% from last year’s high.
  • Second, Europe—which makes up 57% of the US Dollar Index—is facing a meltdown similar to ours from 2008, and the trigger could very well be pulled next week.

The political dissent in Germany is running at a feverish pace. In the next few days, the Bundestag, Germany’s constitutional ruling court will vote on the legality of the European Union’s bailout.

Specifically, Germany will determine whether the $600 billion bailout fund conflicts with Germany’s own fiscal solvency. Recent polls show that Chancellor Merkel will be unable to even count on her own party’s support.

Investors have reached a perverse sentiment where the worse the news becomes; the more likely they think a government coalition is to be there to bail them out. Remember the banking and auto sectors of ’08? Here we are years later and the economy is worse off than it was before—yet the Dow Jones was within 10.5% of its all-time high and more than 80% higher than its ’09 lows just one month ago.

My concern is that the commercial traders will be net sellers of stock index futures this week as they bank some profits and take risk off of the table in advance of Wednesday’s Bundestag ruling. Any withdrawal of support from Germany would literally be, catastrophic.

Given Germany’s history of political dissent as well as their recent history of economic self-sufficiency, this decision could very well be an historic landmark.

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