David Blough

Since late April, stock markets around the world have declined by 10-15% from their 2010 highs. The Dow Jones Industrial Average reached 11,200 just four weeks ago and today is back to 10,000. European and even Asia stock markets have seen even larger percentage declines. What’s it about and what does it mean?

The catalyst for this significant correction in stock prices after a nearly 14 month recovery from the 2008 bear market is Europe. Just six months ago the Euro was riding high, costing $1.50 to purchase, today it has depreciated to the $1.20 -$1.25 range. Greece and its bloated national debt and ongoing high government deficits compared to the size of it GDP has been the focal point. While Greece is a small player in the European Economic Union (ECU), the markets are worried that other larger European countries (Spain in particular) have large deficits as well. Since European banks hold significant amounts of the government bonds of Greece, Spain, Portugal and Ireland, the fear is that a default by one or more would seriously weaken banks in Europe and could lead to another credit freeze.

Europe has responded, putting together with the IMF a war-chest of 650 billion Euros (over $900 billion) to provide loans as needed to the Greek government and other European countries, should they need financing. Greece and the other weak sisters of Southern Europe have made pledges to quickly address the unsustainable spending gaps between tax revenues and spending levels. As governments move toward austerity, it will likely reduce the levels of economic growth across Europe. While the U.S. economy is expected to grow by 3% or more in 2010 and 2011 according to consensus forecasts, Europe may only be able to grow by 1 – 2% over the next couple of years. Meanwhile Asian economies are growing by 6% or more led by China and India.

We believe the European financial turmoil can be contained in Europe and that eventually fears should begin to dissipate. The U.S stock market has corrected by more than 10% and looks somewhat undervalued at 10,000. We think high quality U.S. stocks are attractive at this time. Asian and emerging country stocks likewise look attractive after a more than 15% pullback and strong underlying economies. We continue to under-weight Europe and over-weight Asia and emerging countries like Brazil, in our international investing strategy.

If you are concerned about how this recent volatility is affectiving your portfolio, please give us a call.

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