Monday, June 4, 2012

The Spanish Exodus of Capital

The Euro Zone crisis is a situation that is unraveling daily. Each day there are consistent talks of bailouts or solutions, but the crisis seems to persist forward each day. Greece was the first country to receive most of the attention, with its current talks about either moving out of the Euro Zone, or receiving some sort of bailout. The recent elections in France may signal a change in their approach in solving this problem, but their Government spending is close to 57% of GDP, and they claim austerity measures have not worked. Some economists claim austerity has never been used, and claim they have not forthright in their statements.  Portugal and Italy are in dire straights, and Spain is suffering from a major Real Estate market correction. And, of course, that leaves other countries like Germany to possibly bailout the struggling nations. Right now, Spain is in the spotlight.
Most would see this and state, " But, I am in America, this does not have anything to do with my investments". This statement is myopically false. We live in a global economy, and it is connected. For example, as mentioned earlier, Spain is going through a Real Estate market correction--one that is similar to what was witnessed in the United States in 2007-2008.  The Spaniards are witnessing capital jettisoning from their country at a high rate.  Government Bond yields for Spain are breaching the danger zone of 7%, as they currently are at 6.70%. Since yields are rising in Spain, where are investors parking their Capital? Answer: Government Bonds and securities. But, not just any Government. Investors are placing capital into countries like Germany and the United States. These two countries are seeing an increase purchase of Government Securities.

Germany is offering on their short term bonds close to a 1.17% yield.  And, the United States, is providing  short term bond yields around 1.45%. Currently, investors are seeking safety and are attempting to mitigate their investment risk in the Euro Zone. Since global investors are pouring money into the US securities, it has an impact in the US Economy, impacting the US Dollar. If US Bond yields keep going down further due to the mass exodus of capital leaving the Euro Zone countries and entering the US viz a viz US Securities, what will be next "safe haven"? The US Dollar? Gold or Silver? Let us not forget, the Federal Reserve is already heavily investing in US Government Securities. If interest rates rise in 2014, what happens then with these securities? These questions must be entertained by US Investors as the increasing popularity of US Treasuries may continue to drive down the yield curve, altering the US Dollar's value in the Global marketplace.

Back to Spain, the Prime Minister of Spain has stated based on his data, that net of 66 billion(euro) or $81 Billion US left his country since March of 2012.  The fiscal house in Spain is in disarray as Spain, the fourth largest economy in the Euro Zone, owes investors over 731 Billion Euros.  The budget deficit is major concern for Spain, as it is double Euro Zone countries' deficit average.  And, Spain's unemployment rate is around 24%, the highest in 18 years. If  the Spainish Government and/or economy  is not productive, it does not make it an attractive "investment". People will not invest heavily into markets were there is a decline in productivity. Remember this basic economic axiom: Wealth comes from production.

In summary, the moral to the story is simple: Capital will flow to its most urgent needs. Also, capital will go to where it is can be nurtured and it can grow "safely". Investors seek safety in knowing their hard earned capital will be placed to good use, and it will be used wisely.  If a Government or a Business Entity is showing prodigality towards issues regarding its fiscal house, it will be difficult to attract more capital and investors. If the Government or a Business entity does not show fiscal prudence towards capital, they will need to hard sell outside investors to take a risk. This is the issue that the Prime Minster of Spain has on his hands. So far, the sales job is not working.