Sovereign debt risk sparks worry over banks

Louisa Bojesen
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HEADING into last week, the markets were still primarily focused on politics. Would Greece receive aid money from fellow European countries? Would politicians come together and back fiscal measures to stem Greek debt contagion? Who would win the general election in Britain? Previously peaceful anti-austerity protests in Greece took a turn for the worse, investors dumped European sovereign debt, and the equity markets started to get more nervous. So nervous, in fact, that the Dow suffered its biggest ever intra session drop of 1,000 points last Thursday.

This was mainly due to a fat finger trade which, it seems, set off a string of automatic electronic trades, but the uneasy feeling had started before this. Why? In part because of the European banks. We are all still too aware of how dependant we are on this sector: if the banks are healthy, we are healthy. But, the banks have been getting worried again about lending to each other as they try to work out who is exposed to what sovereign debt. If this is the beginning of another liquidity crisis of sorts, where do you then invest?

Guy Monson, managing partner at Sarasin and Partners, says that amid the chaos, 78 per cent of US companies still beat estimates in the first quarter. Globally, earnings this year could be up around 50 per cent compared to last year – strip out the financials and that figure is closer to 35 per cent, but either way, there will still be large corporate profits.

Monson points out that sovereign risk is now often greater than corporate risk, but that the equity markets lately have been victims of their own liquidity. Over the past week especially, investors have been selling big cap corporates, but Monson says that you should consider buying that asset class now as it is the cheapest.

Blue chip equities are attractive as cash flows are high, yields are equal to or greater than bonds, they are semi-inflation linked, and in many cases, (unlike governments) they are sitting on cash. Monson’s analogy is standing in a car showroom, and suddenly realising that Bentleys are cheaper than Fords.

With political risk back in town, Monson says it might be wise to look at cross-border corporates that aren’t vulnerable to any one political group. He calls the sell-off in US techs (like Cisco, Microsoft and IBM) an “unbelievable opportunity”, large European pharmaceutical stocks (like Swiss Novartis) could be set to benefit enormously from the weak euro and among the stocks that Guy’s fund holds in the UK, Tesco stands out due to its high cash flow, its combined emerging market growth, and its globally diversified business model.

Louisa Bojesen co-anchors European Closing Bell weekdays on CNBC.