Greece – Sword of Damocles Hangs over the Financial Markets


  • Growth rates within the eurozone to vary widely in 2011; average GDP growth of 2 per cent
  • Greek debt crisis as ""litmus test"" for the eurozone
  • Macro data and corporate results set to regain greater prominence over the short term
  • The euro profits from ECB interest rate hikes
  • Asset allocation: Favourable valuations and positive earnings prospects justify upgrading stocks to “neutral”

“The dramatic effects that Greece has had on economic activity across Europe should diminish from this point on,"" predicts Peter Brezinschek, chief analyst of Raiffeisen Bank International AG (RBI). Although overshadowed by the developments in the Greek debt tragedy, both the eurozone and the emerging markets experienced a strong growth phase in the first half of 2011 – only the USA disappointed. “We expect a mirror-reverse development during the second half of the year. Macroeconomic figures and corporate results should once again receive greater consideration once the drama surrounding Greece has faded into the background. However, a worsening of the Greek crisis continues to hang over the financial markets like the sword of Damocles,” Brezinschek, the head of Raiffeisen Research, explains.

Helge Rechberger, head of stock market analysis, expects that relief over Greece's survival coupled with the second quarter results about to be published should provide support for more risk-laden asset categories: “Since the profit prospects remain above-average and the valuations are favourable, the discounted rates should stimulate buying activity both in stocks and corporate bonds.” Rechberger expects that an end to the longstanding under-performance of the growth markets is likely to become apparent over the course of the third quarter. Rechberger favours sectors such as IT, energy, defensive consumption, raw materials, industry and finance.

Economic growth cooling off in the eurozone

After the eurozone's good start at the beginning of 2011, the analysts at Raiffeisen Research expect the dynamic to taper off in the second half of the year. However, the eurozone should manage to post a growth rate of 2 per cent for 2011 as whole. As in the previous year, this average is the result of extreme differences in GDP growth rates. On the one hand, the core eurozone consisting of such countries as Germany and Austria has already recouped the drastic growth setbacks in 2009: “For 2011, we expect growth of 3.3 per cent for Austria and as much as 3.6 per cent for Germany,” explains Brezinschek. “On the other hand, Portugal and Greece remain in deep recession, with the more than 3 per cent drop in Greece’s GDP marking the strongest decline in the eurozone.”

However, economic developments in 2012 should be somewhat more homogeneous, reflecting the support provided by the expected resolution of the sovereign debt crisis and structural reforms. However, in particular the implementation of the necessary measures associated with these developments could repeatedly generate turbulence throughout the year. “This topic could once again be high on the list for financial market investors, especially in spring 2012, when deficit and debt figures as well as new budget plans are published, ” Brezinschek expects.

Debt crisis in Greece as a litmus test for the eurozone

The Greek debt crisis has worsened further in recent weeks. The hard-to-assess consequences of a debt haircut in Greece also explain the consistent rejection of a non-voluntary restructuring by the ECB and, according to analysts, underlie the assumption that Greece will be able to continue to expect financial support from its euro partners over the medium term. “Nevertheless, this requires the passing of additional reform laws and effective implementation of the privatisation programme by the Greek government, which is where the primary risk factor for our scenario lies. The possibility that the provision of EU/IMF aid will fall through at an early point in time due to a lack of will to reform in Greece and that the country will no longer meet its payment obligations is not a negligible risk,” explains Brezinschek. With an injection of funds by the EU/IMF and a new focus in Greece on structural and growth aspects, the situation should relax temporarily during the second half of the year. Over the long term, RBI chief economist Brezinschek expects a restructuring of the Greek national debt: “This only makes sense if Greece posts a budget surplus – without interest payments.”

USA: Higher GDP growth only as of the second half of the year

“As already expected in our last forecast, the massive increase in fuel prices between March and May practically strangled private consumption in the USA during the second quarter,” notes Brezinschek. Under the assumption of an improved labour market, however, RBI analysts predict a return to higher GDP growth in the USA in the second half of the year, possibly resulting in an overall growth rate of 2.7 per cent for 2011.

Inflation peak to be reached soon, additional ECB interest hikes

In May, the eurozone's inflation rate stood at 2.7 per cent p.a., significantly above the just under 2 per cent p.a. mark targeted by the ECB. However, Brezinschek expects that inflation has yet to peak and could climb to over 3 per cent p.a. in July. “But this expected rise is not due to any broad price increases across all goods and services; rather, it is dominated by rising energy and food prices. We expect inflation rates to relax again in the second half of the year,” says he adds.

Since inflation is not likely to peak until the summer months, Brezinschek expects another ECB interest hike to 1.5 per cent already in July. The target for this first phase of increases appears to be the 2 per cent mark.

With regard to the US Federal Reserve, Brezinschek expects interest rate increases to be postponed until 2012 on account of the Fed's concerns about weak growth in the USA.

EUR/USD: Levels of 1.50 possible briefly

The avoidance of a debt collapse in Greece and the differing attitudes of the ECB and the US Fed regarding prime rates should also benefit the euro. “The EUR/USD exchange rate could briefly reach levels of up to 1.50,” predicts Brezinschek.

However, Raiffeisen Research's analysts have a somewhat more nuanced view of the development of the Swiss franc against the euro. While a fall toward 1.10 ought to be avoided once the Greek financial crisis is contained, the motive of precaution still supports the expectation of only a restrained trend between 1.20 and 1.25 for the EUR/CHF rate in the second half of the year.

Government bonds: Slightly rising yields in the third quarter

The experts at Raiffeisen Research expect that both the attempt to quell the debt crisis and the prospects for US GDP growth could rob long-term government bonds on both sides of the Atlantic of their traditional role as “safe harbours.” “This would result in slightly rising yields in the third quarter, without a significant reduction in the yield disparities within the eurozone,” says Brezinschek. For this reason, he recommends that “anyone who does not expect an immediate collapse in Greece or the US economy to fall at least close to a new recession should avoid long-term bonds in particular at the current rate level. However, further interest rate hikes by the ECB could also put pressure on short-term bonds in Germany and bring about a flattening of the yield curve.”

Stock and bond markets: Buy recommendation for corporate bonds and selected stock markets

The stock markets of the eurozone are currently focused entirely on the Greek debt situation. Rechberger expects that much will still depend in the coming weeks on whether the Greek government is able to overcome the next hurdles. The analyst sees the survival of the confidence vote in the Greek parliament as only one step along the way that should not give cause for undue optimism. “Although we consider both the profit trend among companies, as well as the valuations to be positive, we remain cautious with respect to the development of the stock markets in the eurozone over the coming months,” says Rechberger.

The stock expert recommends a “hold” on US stocks: “At the moment, the world appears to be full of stumbling blocks that lie in the way of the stock markets. Nevertheless, most of the important stock indexes are above the levels at which they started the year. With a more positive flow of news regarding debt problems and a stabilisation of the leading economic indicators, the stock markets should slowly but steadily resume an upward course.”

Over a three-month perspective, the expert recommends the purchase of corporate bonds in the investment grade and high-yield areas. For the next twelve months, he also sees a positive margins development in both of these segments and therefore also gives a general ""buy"" recommendation for non-financial corporate bonds. “Nevertheless, we expect increased spread risks in the first half of 2012 due to the still unresolved euro sovereign debt crisis. In our opinion, the high-yield index should outperform the investment grade index on the basis of total return up to the end of the year,” Rechberger explains.

Asset allocation: Economic and company news once again hold more sway

Although the national debt problems in the Western industrial nations represent a risk for stock prices, the Raiffeisen Research analysts are carrying out a weighting adjustment of stocks in their portfolio from negative 5 per cent to neutral. “Above all, the favourable valuations and the positive corporate earnings prospects support the potential for price gains. In addition, decreased raw materials costs may have reduced the pressure on margins, which will positively impact the second quarter reporting season. Even in uncertain times, these factors speak in favour of an investment in stocks,” explains Brezinschek. “If the Greece issue fades somewhat into the background, the essentially positive economic and company news will once again have greater sway over the financial markets, and stocks and corporate bonds can be expected to profit from this development.”

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Raiffeisen Bank International AG (RBI) regards both Austria, where it is a leading corporate and investment bank, and Central and Eastern Europe (CEE) as its home market. In CEE, RBI operates an extensive network of subsidiary banks, leasing companies and a range of other specialised financial service providers in 17 markets.

RBI is the only Austrian bank with a presence in both the world's financial centres and in Asia, the group's further geographical area of focus.

In total, around 60,000 employees service about 14 million customers through around 3,000 business outlets, the great majority of which are located in CEE.

RBI is a fully-consolidated subsidiary of Raiffeisen Zentralbank Österreich AG (RZB). RZB indirectly owns around 78.5 per cent of the common stock, the remainder is in free float. RBI's shares are listed on the Vienna Stock Exchange. RZB is the central institution of the Austrian Raiffeisen Banking Group, the country's largest banking group, and serves as the head office of the entire RZB Group, including RBI.

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