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Why Greece matters to you… (Prepare yourself)

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There have been many stories written in the financial media in the last few days with the theme “don’t worry about Greece; keep buying U.S. stocks.” The perma-bulls just love to quote Kevin Bacon from Animal House: “There’s nothing to see here…”

But, Greece is a worry for U.S. markets because the Hellenic country’s problems are an indicator that risk still exists.

That’s the lesson here: the last six-and-a-half years have been LaLaLand for the markets.

Short-term interest rates have been zero since December 2008 and the Federal Reserve’s Quantitative Easing programs — along with similar money-flooding from the European Central Bank, Bank of England, Bank of Japan, etc. — have flooded the world’s banking systems with money.



So, these almost-mythological constructs have been created. First, there was the Bernanke Put. This meant that the Fed would be the “buyer of last resort” for any asset. Not directly — the Fed doesn’t buy stocks — but any positive Fed movement drives gains in the markets, so the Fed might as well have been short a put option (which is a bullish stance).

Now, with Janet Yellen in charge, there’s a sense that the Fed won’t “upset the applecart” and raise short-term interest rates too quickly.

Again the mantra of the bulls is like zero degrees of Kevin Bacon: “there’s nothing to see here.” There is no risk. Stocks will just keep going up, up, up, up, up, up, up.

But those of us who have studied the science of valuation know that risk is the key factor in determining the value of any investment of capital. And investing your money in the stock market is very much that.

And that’s where Greece comes in. A very real reminder that risk exists. Greece is staring into the abyss at a possible dive into in a hyper-inflationary Third World economy. U.S. stocks have been priced as if nothing could go wrong, and now something has.

Greece owes its creditors $271 billion, and the repayment of any/all of that is now in serious question. Just like matter can neither be created nor destroyed, neither can money.

If those loans are not repaid, Greece’s main creditors — the so-called Troika of the EC/ECB/IMF — will have to write down their value. That money is gone, and those losses have to be accounted for. As in any bank, those lost reserves lower the amount of new loans that can be made. This is an economic contractor, plain and simple.

So, looking at the U.S. Census’ trade-by-country data, Greece is not even broken out separately, and as part of “Other Europe” represents less than 1% of the U.S.’s exports and imports. Greece is not a major trading partner of the U.S., but the Eurozone is.

Those same Census data show that Europe has represented just over 20% of both U.S. imports and exports thus far in 2015. Europe matters.

As macroeconomic data show Europe is finally emerging from its post-Lehman Crisis slump (which was much worse there than in the U.S.), the Greek crisis threatens to knock the EU back into recession.

That would cause the U.S. dollar to strengthen vs the euro, which is an unequivocally bad thing for U.S. companies with European subsidiaries.

Earnings for the S&P 500 grew at a paltry 0.8% in the first quarter and are estimated to have contracted by 4% in the second quarter.

A fresh earnings headwind from a stronger dollar is the last thing a U.S. market bull should want to see.

So, Greece matters. Even after a slight pullback on fears of default in Greece (and Puerto Rico) the U.S. market remains well above historical valuation levels. Stocks are too expensive, and if Greece is the wake-up call market participants needed to begin adequately pricing in risk, then so be it.

Be very careful with the stocks in your portfolio. European stocks have MUCH more downside if Greece exits the Euro, thus I’d cut exposure to European stocks/funds/ETFs to zero now.

Also, you should consider writing calls against current domestic equity positions (a process I described in THIS column) and look to trim your equity exposure overall.

Other asset classes, like U.S. high-yield bonds, offer more value than stocks now, and that’s where you should be focusing your new investments.

Opa!

Cheers,

Jim Collins

 @JimCollinsOC on Twitter

Jim Collins is the Founder and Editor of The Portfolio Guru, now exclusively published by the Outsider Club. He has 22 years of stock analysis experience as an equity analyst and financial analyst with some of Wall Street’s biggest and most respected firms. Now, you can get his CFA-level guidance in a newsletter delivered to your inbox. For more on Jim, check out his editor’s page

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