European Union: Resolution Up in
the Air Means Continued Risk

Europe is attempting to deal with its debt crisis, but lack of a resolution at the meeting last week and so many cooks in the kitchen, plus with all the eurozone members on credit watch, the risk to all investors around the world is still high. Don’t be fooled by the recent upswing in the markets. It’s true that the economic situation continues to improve across America, but there is still the $15.0 trillion in U.S. debt along with a mounting deficit, not only in the country, but across many states. And, as we head into the election year, there is increasing evidence that there could be political gridlock for at least the first quarter as the two parties haggle for their policies, not willing to give in.

But the risk is far greater. At the meeting of European leaders last week, a treaty to deal with the debt woes in the eurozone that was pushed by Germany and France failed to achieve a majority vote. The new treaty splits the 27-nation European Union, since only 23 of the 27 European Union countries agreed. The four countries voting against the treaty are Britain, Hungary, the Czech Republic, and Sweden. The failure to achieve a majority means a split, as well as continued uncertainty in the eurozone that will surely add risk to the global markets.

Based on the market response, there is little faith in the proposed resolution. Don’t forget that the European economy is massive, with over 500 million people. The eurozone debt issues need to be cleaned up in a timely and agreeable manner. It’s obvious that, with 27 members in the European Union, there will be differences in opinions and needs, as each country has their own agenda. It’s a lot easier when you deal with one government, albeit you wouldn’t know that in the U.S.

To try to avoid further slowing, the European Central Bank (ECB) decided to cut the eurozone’s interest rate by a mere 25 basis points to one percent. Heck, that’s nothing! Some, including myself, were expecting a more aggressive monetary strategy to try to revive the region and avoid another recession given the debt crisis. It was the second cut in five weeks, but it would have been a stronger signal to the world if rates were slashed to below one percent, which has never happened in the region, even during the recent deep recession. A cut to 50-75 basis points would have made more sense and would have given the region more of a boost. The ECB said that the eurozone could fall into a mild recession in 2012.

And what made the small cut worse was the ECB saying that there would be no fund set up for aggressive bond buying, which was a major disappointment, especially since there was speculation that the G20 was looking at a $600-billion International Monetary Fund lending program in the eurozone.

As we move forward, Standard and Poor’s has placed each of the 17 eurozone countries on credit watch and suggested that there could be rating cuts to all the countries, with the exception of Germany.

But what I view as a major problem is the impact of Europe on the rest of the world, especially China, which is experiencing higher risk of deeper slowing due to the reduced demand from Europe. China’s industrial output growth for November fell to its slowest rate in over two years. And, should China falter, the impact on the world could be devastating.

I sense stocks that will face difficult resistance and remain vulnerable to a downside reversal; but you can protect via put options, as I discussed in Today’s Stock Market: Managing Your Risk.

In the large-cap tech area, the big winner over the next few years could be Microsoft Corporation (NASDAQ/MSFT) if the company’s strategy to move more into mobile solutions pans out. You can read about how Microsoft could again achieve stardom in Microsoft May Be Set for Prime Time.