I Was Wrong

 | Jun 29, 2012 | 8:26 AM EDT
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Expectations for the European summit were low. German Chancellor Angela Merkel's comment set the tone when she stated there would be no joint debt liability "as long as I live." This was widely assumed to mean that Euro bonds were off the table. There are still no plans for Euro bonds, but what emerged from the summit overnight is indeed a form of joint liability and a step toward a fiscal union.

And I didn't see it coming. That's going to happen in this business. My mentor Dollar Bill used to tell me that it's OK to be wrong,  just don't be wrong for too long.

Here's a simple way to see Europe's new deal. Currently the European Financial Stability Facility (EFSF) lends to countries. The EFSF is a temporary fund to be replaced by the permanent European Stability Mechanism (ESM) later this year. It was assumed that the ESM would follow in the footsteps of the ESFS and lend to countries.

Instead, the ESM will now inject capital directly into banks. In Spain's case, the ESM will accept a junior position instead of demanding seniority. The ESM will receive stock in Spanish banks as collateral, which moves them to the back of the line for repayment. As long as Europe can find the money to fund the ESM, the European banks are safe. 

In yesterday's article, I mentioned that my biggest fear going forward was systemic risk. In 2008, markets were shattered when we learned that the fates of U.S. banks were more closely tied than they appeared on the surface. My concern was that we'd experience a similar situation in that we might learn that the fates of European and American banks are similarly tied.

This concern has just been moved to the back burner. My banking short via the Direxion Daily Financial Bear 3x (FAZ) looked great yesterday, before the rumors of the ESM solution began to leak out. Right now my only consolation is that I'm holding puts so any loss I may suffer will be limited. Since I have protection I'm not closing the position. Maybe the market will change its mind about this deal. If that happens, I'll just consider myself lucky.

I realize that this is the umpteenth time that Europe has been saved, but is it different this time? A cynic might say that the European bank debt is being funneled into one massive can and that the ESM will give that can a tremendous kick. In the end, Europe is still piling debt on top of debt and eventually the bill will come due. Fair enough.

I'm not going there. Actually, it's kind of liberating. I don't have to waste time convincing myself (or you) that I was right all along. I'm free to make new decisions, instead of trying to justify old ones. 

Part of me wants to say that it isn't fair. Every move is based on some kind of rumor or surprise out of Europe. How can anyone hope to get it right in this type of environment?

It doesn't matter. That's the game I signed up to play. Europe saved itself, and I didn't see it coming. I was wrong. 



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