Europe's Deal Helps Boost US Markets

07/09/2012 9:45 am EST

Focus: MARKETS

John Stephenson

President and CEO, Stephenson & Company

By finally hammering out a deal that will last longer than the next quarter, Europe has helped move investors back into US markets—but that same can't be said for European markets, notes John Stephenson of Strategic Investor.

The deal hammered out by the Eurozone leaders in the early hours of June's final Friday (and the last day of the second quarter) gave investors a boost, with stock markets around the world up sharply in the last day of June.

Leaders in Brussels took significant steps towards integrating the currency bloc deciding that a single supervisor oversee banks in the 17 countries that use the common currency. The leaders also agreed to provide short-term measures to help Italy and Spain deal with their rising borrowing costs.

The decision to allow European bailout funds to be used directly to prop up faltering banks saddled with bad loans and assets was heralded by traders and investors. While many of the details still need to be worked out, the initial optimism that greeted the announcement sent the value of the euro soaring.

Still, investors remain skeptical about the long-term effects of the deal in solving Europe’s problems. Since 2010, there have been more than a dozen meetings of Europe’s leaders aimed at resolving the European crisis, and none have managed to stop the continent’s debt problems from spreading. This time around, investors are hoping that European leaders are showing greater flexibility and willingness to address the fundamental issues that they have thus far avoided.

In the United States, investors chose to see the glass as half full following the announcement, sending the S&P 500 up nearly 2.5% on Friday. The boost in markets in June helped erase some of the carnage from May, but the performance of the S&P over the second quarter was a negative 3.2%.

The gains were enough to help the markets close out the first half of the year on a strong note. The Dow is now up 5.4% year to date, while the S&P has gained 8.3% and the Nasdaq has risen 12.66%.

June’s strong finish, contrasted with the May hysteria of a hasty Greek exit and subsequent fears of an imminent Eurozone breakup, has given way to cautious optimism. But the best that investors can realistically hope for at this point is a re-containment of the debt crisis and a removal of the overhang on markets.

The cycle of increased volatility and the near death experience of 2008-2009 have put many investors in a bad mood. Investors throughout North America have been yanking money from equities at an alarming rate with most of that money ending up in cash or cash equivalent accounts.

Cash balances since 2007 have been rising at the fastest pace on record, and over the last five years have been growing at an annualized rate of close to 10%. The cash that has been raised is in addition to cash balances that investors held prior to the crash, suggesting that investors are taking an extremely risk-averse view toward the stock market.

Should Europe be able to put its problems in the rearview mirror, the stockpile could be re-deployed into the stock market—a potential boon for equities. Most of the cash accumulated over the last five years is from investors aged 50 or older, the most risk-averse investor.

What these investors want is a zero-risk savings account or bond that pays 9% or 10% annually. But since such an instrument doesn’t exist, look for investors to plow their money back into high-quality dividend stocks once the dust settles on Europe.

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