NEW YORK (TheStreet) — With (unconfirmed) reports of ballot rigging, voting stations set ablaze and no party winning anything resembling a majority, the stage is set for act three of this Greek tragedy. Entering stage left, in their recurring roles, market insecurity and volatility.
The left-wing party of Alexis Tsipras, the Syriza Party, gained enough votes, about 27%, to remain a political force and cause further damage to an already-fragile environment. The more centrist and established New Democracy Party eked out a victory over the anti-austerity left with 30% of the vote, an outcome that appears to be disappointing the markets.
The difference between the two parties is that Tsipras is attempting to blackmail Europe into changing the terms of the Greek bailout by threatening to abandon the deal altogether, while Samaras, who heads the New Democracy Party, favors a more tempered approach and wants to renegotiate the terms.
The first step after these elections will be an attempt to form a coalition to gain a majority in Parliament. If unsuccessful, as we expect, a new round of elections must be held. Even if a coalition government is formed, we suspect that too much time has passed to alter the trajectory of history.
Both parties insist that no one wants to exit the euro or eurozone, but the reality is that the Greek people have spoken, they are divided about the future, and with their voice, they have likely sealed their own fate and further isolated Greece from Europe.
Moreover, a Greek exit from the union, previously seen as taboo by European policy makers, is no longer far-fetched. In a recent speech, European Central Bank Chairman Mario Draghi acknowledged the possibility of an exit by Greece and went on to say: “We won’t compromise our key principals to prevent that outcome,” meaning that extreme compromises from the ECB and northern Europe are unlikely.
With near 50% youth unemployment, a sharp contraction in GDP and reports that Greek utilities are rapidly running out of cash, forcing the implementation of rolling blackouts, the political and social environment could hardly be more volatile.
Here is what we think might happen next and what the impact to investors will likely be:
European leaders, along with the ECB and International Monetary Fund begin openly discussing “Plan B.”
In spite of being able to form a coalition government and softening their rhetoric, Greek officials run out of time and money. Various government services, including utilities, start shutting down, causing a rise in social unrest.
Global equity markets and commodities sell off.
Massive bond buying by Swiss, German, English and U.S., central banks will help quell the crisis within a week or two.
Global equity markets and commodities rally.
The ECB offers emergency funds, with minor conditions. This will have very little effect.
Capital outflows from Spanish and Italian banks will reach record levels.
The ECB will lower interest rates by 50 basis points while the IMF, U.S., China, Switzerland and several middle-eastern sovereign wealth funds pledge to isolate the risks and “ring a fence” around Spain and Italy to avoid a contagion. Unfortunately, they will likely end up ignoring Portugal and Ireland, so the crisis will spread further, albeit with less dramatic force.
The euro will sell off sharply, nearing $1.10, as Italian, Spanish and other periphery nations’ debt yields soar to new highs.
In the most elegant form of hubris, Greek officials ask to remain in the union and retain the euro as their currency — as long as all is forgiven (including debts). Oh, Icarus, you do fly too close to the sun.
We think things will move quickly and bring market swings back, reminiscent of November 2008. The longer-term effects of an exit will be felt in economies around the world, as Europe will likely contract further, causing China to slowdown even more (Europe accounts for roughly 25% of Chinese exports).
This will surely impact the U.S. economy as well, as the stronger U.S. dollar will negatively impact our exports. Nonetheless, the U.S. equity markets will likely hold up fairly well and the S&P 500 index will remain within its current trading range of 1250 to 1315. Moreover, there is a chance these events have a significant positive impact.
My sincere hope is that Republicans and Democrats will take the lessons of Greece and Europe and decide to engage in real negotiations to avoid the “fiscal cliff” the U.S. is headed toward. What can I say, I am an optimist at heart, but will continue to advise investors to be defensive in their strategy. As we like to say at our firm — optimistic by nature, defensive by strategy.