Fidelity CIOs Rossi and Wells share views on future of eurozone
Dominic Rossi, Global CIO Equities, and Andrew Wells, Global CIO Fixed Income, at Fidelity Worldwide Investment see the solution to Europe’s debt crisis as either more quantitative easing or a breakup of the eurozone.
What are your views on the recent events in Italy and the Evolution of the Eurozone debt crisis?
Andrew Wells: Berlsuconi’s announcement that he would stand down was initially greeted positively, but it was quickly replaced by acute uncertainty over what comes next in the minds of bond investors. In most key regards, this is a crisis of confidence in the Italian government and the political framework. There were simply no buyers of Italian bonds at the start of this week, except the European Central Bank (ECB) via its Securities Market Program (SMP).
On the positive side, the ECB is now buying Italian bonds more aggressively and the government managed to sell its full €5 billion allocation at auction – one-year bills were sold at a lofty average of 6.09%, but that is considerably lower than the peaks seen in the last few days when yields breached 7% across the board.
Given the size of, and rate of increase in, Italian debt, combined with the deteriorating growth outlook for the Italian economy and tightening fiscal conditions, a ‘soft’ restructuring may now be inevitable. Markets appear to recognise this fact and recent market action can be seen as an attempt to force the European authorities to act with greater magnitude.
Dominic Rossi (pictured): The situation in Italy and the fact that their borrowing costs hit unsustainable levels means that markets have quickly breached the line that was drawn in the sand at the recent EU Summit. This is characteristic of the pattern that has become typical so far in this crisis: markets are forcing investors and policymakers to confront “the unthinkable” as events once regarded as unlikely become realistic possibilities.
I think the situation has become more challenging now, because the window of opportunity for the EFSF Bailout fund to rescue Italy has passed. We now appear to be on an inevitable path towards bolder ECB involvement in the shape of quantitative easing, however, there is likely to be more volatility before we reach that juncture.
What next? Could we see some other countries exit the Eurozone?
Andrew Wells: The probability of a member state leaving the Euro-zone has risen in recent weeks, as Dominic alluded to. We first saw this possibility take shape with Greece, which was being described only last week as a ‘unique situation’. However, it seems conceivable that two or three countries could consider an exit, particularly if a precedent is established. This is certainly not a possibility that investors should be complacent about.
Dominic Rossi: Ultimately, I see two potential outcomes. First, the crisis continues to deteriorate and begins to impact more seriously the core countries of Germany and France. German banks and insurers become embroiled to a point where the German government is persuaded that quantitative easing is the only option. The second outcome is that the Germans do not accept that solution at any cost – under this scenario, I think we would have to give significant weight to the possibility of a break-up of the Eurozone.
How has the nature of risk changed?
Dominic Rossi: I think we will need to re-write the rule book on risk as a result of this crisis. The concept of “risk free” in terms of developed market sovereign bonds has clearly been shaken to the core. Within equities, the crisis has implications for how we assess stocks. First, we must consider the financial health of a company even before we analyse its fundamental business model. We must assess its balance sheet, its debt position and whether it has sufficient to cash to run and invest in its business.
Secondly, we must ask where are its customers? If the business is highly exposed to Asian markets, which are growing nicely thanks to intra-regional and domestic growth drivers, then investors are in a better position. In this light, luxury goods makers and premium automobile makers that are highly geared to Asian consumers, yet ostensibly based in Europe, can still be sound investments in spite of the clouds hanging over the Eurozone.