Buy Low, Sell High the Euro Crisis

Daily Reckoning’s Chris Mayer opines that the Eurozone crisis is a golden opportunity for investors because it represents “the biggest firesale in history”

Mr. Mayer writes,

Europe’s banking sector holds 2½ times as many assets as the U.S. banking sector. It’s huge. And it’s in big trouble. Europe’s banking sector needs cash — mountains of cash.

As a result, it will have to sell more than $1.8 trillion of assets, which will likely take a decade to work through. For perspective, it sold only $97 billion from 2003–10. “The list of asset sales is the longest I’ve seen in 10 years,” says Richard Thompson, a partner at PricewaterhouseCoopers in London. Knowing how these things work, the final tally could well be double that. The world has never seen anything this big before.

Where will the cash come from?

This is our opportunity. There is no better, more-reliable way to make money than to buy something from someone who has to sell. Bankers are the best people in the world to buy from. Believe me, I know.

I was a vice president of corporate banking for 10 years before I started writing newsletters in 2004. I would get at least three or four requests every year from some investor group asking if we had any assets we were looking to unload. Why? Because they know banks are stupid sellers…

But institutionally, banks can’t really hold bad debts for long. As soon as they report a big bad debt on a quarterly financial statement, some annoying things happen. It means they have to put aside more capital for this particular loan, which they hate to do, as it lowers profitability and requires a lot of paperwork. It can raise the attention of regulators, which banks hate. It can raise shareholder suspicions about lending practices, which banks hate. So the usual way to deal with bad debts is to clear ’em out as fast as possible. (Unless you’re swamped with bad debts in a full-blown crisis, in which case you try to bleed them out and buy time to earn your way out, and/or patch them up as best you can to keep up appearances while you pray for a miracle — or a bailout.)

With the EU banking sector loaded with trillions of stuff it must sell, the mouths of knowing investors drool with money lust.

The fundamental universal concept discussed above is “buy low, sell high”.

And bursting bubbles or bubble busts have presented as great windows of opportunities to acquire assets at bargain basement prices or at fire priced sale that should signify best value for one’s money (whether for investment or for consumption).

But it takes tremendous self-discipline to go against the crowd, to shun short term temptations, and to patiently wait for opportunities like these. And it also takes prudence and emotional intelligence to adhere to Warren Buffett’s popular aphorism of “be fearful when others are greedy and greedy when others are fearful”.

There is another major or important implication from the article above. The Euro crisis is far far far from over. And so with the US banking system (although to a much lesser degree relative to the Eurozone)

Euro banks have only sold a speck or a fraction of what has been required ($97 billion of $1.8 trillion) to cleanse their balance sheets to restore a sense of normalcy in their banking system.

This only means that the political path will come from one of the two options:

One, central banks, particularly the ECB, possibly in conjunction with the US Federal Reserve, will have to persist in massively inflating the system in order to prevent the markets from clearing. The policy of deferment (as seen today) allows for the banking system to gradually dispose of their assets at artificially inflated prices…

Otherwise, the second option means facing the consequence of a banking system meltdown, which should ripple to the welfare state—an option, which so far, has been sternly avoided by incumbent political authorities.

Of course, politicians and the vested interest groups have been hoping that economic growth will eventually prevail that would help resolve the crisis.

But this is wishful thinking as the direction of political actions, purportedly reform the political economies of crisis stricken nations, has little to do with promoting growth but to transfer resources from the public to the politically protected banking system.

Austerity has been a fiction peddled by the left.

chart from Bloomberg

Central bank assets have soared to uncharted territories, as taxes and numerous restrictive trade regulations have been imposed, while price inflation has been percolating through the system.

chart from tradingeconomics.com

In short, the fire sale of assets from Eurozone’s crisis afflicted banking system has yet to come.

And we should first expect more central banking interventions that would amplify such an outcome.

And I’d further state that the boom bust cycle fostered by global negative real rates environment will lead, not only to fire sales of financial assets to the Eurozone, but across the world—in the fullness of time.