Greeks say “no”, still get a “yes”!

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The uncertainty on financial markets persisted all week in the wake of the Greek referendum. On top of that, Chinese equity markets suffered considerable further losses at the start of the week, although they did recover later on. Meanwhile, prices of many commodities were under heavy pressure.

The Greek economy has rapidly deteriorated over the past few weeks, partially due to liquidity issues for banks. Ben Steinebach Ben Steinebach Head of Investment Strategy

The majority (61%) of the Greek population – as advised by Prime Minister Tsipras – spoke out in the referendum against the latest austerity and reform proposals from its creditors (the version tabled late June). Although the financial markets did not panic, fears mounted that this would lead to a Grexit. European equities dropped by about 4% during the first two days of the week, then recovered somewhat. On balance, losses remained below 1%. Still, investors remain ill at ease with regard to the outcome of the Greek drama. On Thursday, the Greek government offered new proposals to the Eurogroup (all the eurozone’s finance ministers). These new proposals were virtually identical to the creditors' proposals from the end of June, the very ones voted down by a wide majority of the populace. As such, the government has made a tremendous U-turn. The proposals included cutbacks and tax increases totalling €13 billion, as well as pension reforms.

However, there are a number of obstacles to deal with before the week's end. Firstly, the Greek parliament has to agree with the proposals today (Friday), and especially for the Syriza-members of parliament that is quite hard to swallow. Subsequently, the creditors (IMF, ECB and European Commission) have to approve the solidity of the measures. Meanwhile, the Greek economy has rapidly deteriorated over the past few weeks, partially due to liquidity issues for banks. It could well take more than the proposed €13 billion to fix this adequately. A third hurdle is that national parliaments of EU countries must agree as well. Eventually, on Sunday, the summit of European heads of state will have to take the final decision. According to the latest Greek proposals, the country needs a new emergency credit of € 53 billion for three years. We believe this is not sufficient to push the Greek debt back to manageable proportions. This will also require debt restructuring, for example by lowering interest rates and pushing out maturities even further.

Looking at these hurdles, a Grexit is still a distinct possibility. We believe this need not carry dramatic consequences because security mechanisms are much better than in 2011/12. A large percentage of the Greek debt has been concentrated with parties like the ECB, European Support Mechanism and the IMF. A banking union has been created, leaving banks in the rest of Europe less vulnerable; the biggest banks are subject to direct supervision by the ECB. However, we cannot rule out unrest on the markets, especially in the short term. That said, the ECB does have the means to limit this unrest: it could step up the quantitative easing programme (which focuses to a relatively large degree on purchasing German bonds). And in case the unrest is concentrated in the other peripheral markets, the ECB could activate its so-called OMT-programme. This allows the ECB to make unlimited bond purchases on these markets, provided the countries submit a support request to the European Support Mechanism.

China and commodities also causing turmoil

Over the past few weeks, Chinese equity markets have plummeted, leading to major unrest among investors. Many commodity prices have dropped as well, partially due to abundant reserves. Although the decline of the Chinese equity markets since the middle of June was dramatic (30%), we believe the resulting unrest should not be all-consuming.

Firstly, prior to the fall the markets saw an increase of over 100% since October last year, and the current movement could be seen as a reasonable correction as a consequence of profit taking. Secondly, the Chinese authorities have sufficient room for manoeuvre to stabilise their markets. There is still scope for lowering interest rates, and reserve requirements for banks can be lowered in order to boost the economy. This is particularly important to restore investors' confidence. Moreover, it appears that an upwards correction has been taking place over the past few days. The commodity market, too, has been plagued by unrest in the past week. The oil price suddenly plunged. This is partially due to high reserve levels and partially to a strong correlation between commodity prices and the Chinese market.

With all the Greece and China-related news dominating the headlines, last week also marked the start of the Q2 earnings season. Partially due to lower aluminium prices, Alcoa posted disappointing results. Pepsico, however, managed to achieve solid results despite turnover in euro terms being hit by the strong dollar. In the Netherlands, the AEX dipped back below 460 points early in the week, but rebounded to 470 on Thursday, to reach nearly 480 points on Friday morning. Naturally, the short term results will hinge to a large degree on the outcome of the Greek drama.

Next weekend decisive

At the end of the weekend we will know the Greek parliament's decision, and how the European heads of government will have responded. There will be interesting macro newsflow in the upcoming week, and the earnings season will gather steam as well. Next week, American banks, including Bank of America, Citigroup, and Goldman Sachs, will publish their Q2 results. Furthermore, some interesting businesses to keep an eye on include Intel, Johnson & Johnson, Schlumberger, and especially General Electric, which is considered to be a bellwether for the US economy.

In the Netherlands, ASML will be the first big business to publish its results. In the macro area, many countries will publish their inflation data for June: core European countries (Germany, Italy, France, Spain) and the EU as a whole, as well as the US. The latter will also issue the first business cycle indicators for July (Empire State Manufacturing Index and the Philadelphia Fed index), along with the first data on housing starts in June. Fed chair Yellen will speak to Congress, and the Federal Reserve will release its Beige Book with economic data on the past six weeks.

In Germany, the ZEW index over July will be published: an indication of how investors view German and European investment opportunities. We will also see data on industrial production in Japan and China over June, and the first estimate of Chinese economic growth in the second quarter. This is particularly one we look forward to, given the developments on the Chinese markets. And last but not least, the ECB will meet on Thursday to discuss interest rates, but investors are above all interested in what Draghi will have to say about the quantitative easing programme and about Greece. First, however, the Greek parliament and subsequently the European heads of government will have their say.

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