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Greece Imposes Capital Controls

At 3am local time this morning, the Greek government announced the suspension of overseas banks transfers and that daily cash withdrawals would be limited to 60 Euros. This was in response to the failure over the weekend to reach an agreement between Greece and its creditors that could be put in place before the current agreement expires tomorrow and the withdrawal of ECB emergency liquidity funding. In Monday trading, the Euro has slipped by around 1.5% against the US Dollar and Asian markets have fallen on average by around 3%. At the time of writing, European Equity markets are also down by around 3%.

Looking at the facts, it seemed inevitable that that this point would be reached. Greece’s debt of 322 billion Euros is shared among 3.5 million workers, meaning 92,000 Euros of debt per worker. There is no way Greece would be able to pay this back within a hundred years, even if it had an extremely competitive exchange rate which it doesn’t. At the same time, the so-called troika has been demanding austerity in order for Greece to be able to achieve a primary budget surplus. This pushed Greece further into recession, as it could not rely on a competitive exchange rate to revive its private sector (indeed Greece’s actual economic output last year was around 20% below that originally forecast by the IMF). Syreza, the current governing party, was elected because it was anti-austerity. For it to have accepted the troika’s demands would have been political suicide. Greece and its creditors were on a collision path.

What happens next is hard to say. The Greek people will vote in a referendum on Sunday as to whether to accede to the demands of the troika. If they vote ‘no’, the stage would be set for Greece to exit the Euro. If they vote ‘yes’, Prime Minister Alexi Tsipras would step down and an interim government would be put in place pending a new election. But even with a vote in favour of austerity and the possibility of an agreement being reached with creditors, Greece is still left with an unsustainably high level of debt.

The good news is that a relatively small amount of Greece’s debt is now held in private hands, so the repercussions for financial markets outside Greece are not what they would have been back in 2010. 83% of Greece’s debt is in now in public hands, such as the ECB, the IMF and euro-area governments. A Greek default and exit from Euro would be a rather unfortunate balance sheet issue for them but beyond that the European financial system is well ring fenced. For Greece, a more competitive exchange rate would eventually be a blessing, though in the meantime a severe contraction should be expected as a result of the payment system grinding to a halt.

As for the implications for Europe’s financial markets, there has clearly been a nasty reaction, though equity markets are well off their lows. The reality is that if developments in Greece do not impact Europe’s financial system, then equity markets should recover. The economic recovery across the Eurozone had been underway since 2013 and this should be expected to continue, particularly since on a trade weighted basis the Euro is more competitive than it was back in December. Equity market valuations remain reasonable, with the Euro Stoxx 50 index on an attractive trailing dividend yield of 3.5%.

We recently increased our target weight to European Equities and we will be using the current weakness to move to these new targets.

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