Global markets slump as Greece closes banks and debt talks falter

29 Jun 2015 | Author: | No comments yet »

Black Swan Dangers May Lurk in Emerging Markets Amid Greece Risk.

European shares sank almost 4 per cent and government bond yields in Italy, Spain and Portugal jumped on Monday as investors priced in a growing risk that Greece will be the first country to leave the euro. Greece is heading for a “massive economic contraction” and is likely to be forced out of the euro zone, according to Mohamed El-Erian, the former chief executive at Pacific Investment Management Co.Global financial markets are braced for a wave of contagion from Greece on Monday, with expected heavy losses for southern European government bonds and regional stock markets as investors scramble to discount a possible “Grexit” that most had still assumed was unlikely as late as Friday afternoon. “That is going to have a real big impact on markets and that will generate increased volatility,” said Ian Stannard, European head of FX strategy at Morgan Stanley in London. Drops in bank shares and a 30 basis point rise in the cost of borrowing for other southern European euro zone members was the start of an acid test of policymakers’ hopes that, if Greece does go, the rest of Europe is isolated from the fallout. A flight to haven assets has begun as Greece’s economy faces a tailspin, sparking concern defaults and bank collapses could spill over to other European nations, and impose a global impact.

Greece shut its banks and imposed capital controls in a dead-of-night announcement designed to avert the collapse of its financial system after a weekend of turmoil. Greece’s banks and stock market were closed on Monday and were expected to remain so until after the July 5th snap referendum called by Greek prime minister Alexis Tsipras on further austerity demanded by euro zone partners. This time, though, Europe and the U.S. confront the risk of contagion with a strengthened policy toolkit — including new mechanisms to monitor and support banks, and a system of swap lines to inject liquidity. That prompted the worst falls in European shares since 2011, but the euro itself proved relatively robust, recovering much of a roughly 2-per cent initial fall to trade down 0.8 per cent at $1.1075. Greece’s European partners on Saturday shut the door to extending the existing credit lifeline beyond Tuesday night’s deadline, an extension that would have accommodated the planned July 5 referendum.

The lack of trust on both sides now makes it very hard to see how there can be an agreement that would resolve the impasse, said El-Erian, who worked at the International Monetary Fund from 1983 to 1997. The European Central Bank on Sunday then capped the amount of emergency financing it extends to Greek banks at last week’s levels despite reports of further heavy deposit withdrawals over the weekend. The dollar gained against the euro in early Asian trading, and U.S. government bonds should see a safe-haven bid from investors wary of European equities. Conspicuous by its absence so far from this year’s Greek drama has been contagion to other “peripheral” euro nations government bond markets as was the case during the last peak in Greek and euro tensions in 2012. The U.S. equity market will probably see some volatility on Monday, but safeguards against contagion introduced since 2010, when the possibility of a Greek default first shook markets, has many expecting only modest losses in U.S. stocks. “Beyond volatility tomorrow, perhaps, there shouldn’t be much effect,” said Ken Fisher, founder and CEO of Fisher Investments. “Greece bank closure should be pretty fully discounted.

That’s what markets do for a living.” Wall Street’s reaction ahead of previous deadlines in Greek negotiations has been quiet compared with European financial markets. However, some U.S. investors expect more than just a rough session of trading. “We’re coming up on zero hour for this crisis and it may well be that a number of investors will prefer to wait on the sidelines for the dust to settle,” said Alan Gayle, senior investment strategist at RidgeWorth Investments in Atlanta, which has US$50 billion in assets under management. Volatility in the euro jumped by the most since the 2008 global financial crisis and the currency dropped 1.4 percent top $1.1013 as of 5:43 a.m. in London. And it is these possible anti-contagion measures that make trading bonds and stocks at least fraught with difficulty over the coming week – and not a simple one way bet on the shock. Seen by some as a contrarian indicator of future stock market performance, a weekly poll of individual investors showed positive sentiment for stocks remained below average for the 16th straight week despite a solid uptick in optimism.

Britain is regarded as another safer haven and the euro also hit a 7.5 year low against sterling of 69.885 pence , but all of those moves were more muted in morning trade in Europe than they had been overnight in Asia. “Right now the surprise is that the euro is not weaker. What’s more, the traditional safety of German government bonds in such a crisis has been challenged due to severe liquidity shocks in that market this year also. The Greek government’s determination to resist fiscal measures its creditors are asking stems from the devastating impact on the nation of five years of austerity. Indeed, individual investors have pulled US$56 billion from U.S. equity funds in the past 26 weeks, according to EPFR Global, which tracks fund-flow data. As a group, emerging and developing nations are set to expand about 4.3 percent this year, compared with 8.7 percent in 2007, according to the IMF. “The key issue that will determine the extent and duration of the sell-off” in risk assets globally is the ECB, said Mohamed El-Erian, chief economic adviser at Allianz SE and a Bloomberg View columnist.

Federal Reserve could soon raise interest rates remain risks, Gayle, Joy and others said they still expect U.S. stocks to go higher over the medium term. The S&P 500 and tech-heavy Nasdaq hit all-time highs in recent months, with markets bouncing back and forth in a limited range since around February as many investors fixate on the Fed. On Thursday, Labor Department data is expected to show nonfarm payrolls increased by 232,000 in June, with the unemployment rate edging down to 5.4 percent from 5.5 percent in May. Since the region’s 1997-1998 financial crisis, central banks have adopted floating exchange rates and expanded their foreign exchange reserves to deal with market meltdowns.

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