Bet Against the Euro, on US Stocks

 | Aug 15, 2011 | 9:19 AM EDT  | Comments
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The single best piece regarding the sovereign debt issue ever written on Real Money is here and should be re-read by every subscriber concerned with the issue.

Every subscriber should be concerned with the issue of the eurozone unraveling because that drove the volatility in the equity markets last week. The downgrade was irrelevant, proven by the fact that Treasuries rallied that Monday. The key point made by the author is that these mega-crises are easily foreseeable, they are inevitable, and they unfold very slowly, giving the astute investor plenty of time to prepare.

That article, posted in February 2010, noted that in the late 1990s it took more than two years from the Thai baht devaluation until Russia blew up, then finally Brazil. That was the same amount of time the great mortgage blow up took, when problems became obvious in the summer of 2007. The markets did not bottom until almost two years later in March 2009.

When did the PIIGS first come onto our radar screens? Yet, here we are with yet more bailouts, debt extensions and so forth. Neither Greece, nor Ireland, nor Portugal has any hope whatsoever of being able to service their debt loads, and big Brady Bond type haircuts are a certainty.

What is striking is that there is still time to prepare for the denouement, especially in Italy and Spain. A bet on the ultimate disintegration of the common currency is probably a good one.

Meanwhile, there are some statistics floating around that should give some reasonable confidence that the US equity markets could be at a bottom. Bespoke has a table showing the worst starts to August and what happened next.

 

Worst August Starts for S&P 500
Source: Bespoke Investment Group

 

This is the worst August start in decades, with the S&P 500 down more than 7% in the first week of trading. In only three years did the balance of the year have a negative return, those being 1990, 1998 and 1973. So, the odds in this exercise favor a positive trend going forward. Although my early thoughts would indicate a non-trivial chance that we repeat 1998.

Another table shows the worst days in stock market history and subsequent performance indicates almost invariably an up market four weeks later. Only three days in 2008 and one in 1962 led to negative performance a month later. So the -6.66% day on August 8 is most likely to be followed by an up month history is any guide.

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