Why am I holding Euros???

The most obvious question to oneself these days, especially if one's a fund or an institutional, is Why aren't we bailing out of Europe...If you're the client, the question to your advisor: Why are you holding on to Euros?  The obvious explanation is: cognitive dissonance. The hypothesis was advanced by  psychologist Leon Festinger (1957).It became popular among political pundits and business types quite rapidly when, years later,  Newell and Simon* integrated Festinger's insights into their own hypothesis concerning human problem-solving.

The Newell-Simon model as it is now labelled, named after Allen Newell and Herbert Simon,  describes how human beings make decisions, ie. solve problems. It becomes especially enlightening when it describes how people react during the intellectual logistics of problem-solving: the intelligence phase, design phase and choice phase.

How do investors react to conflicting attitudes: you hold Euros but everyone calls a crash.

Decision-makers, when in doubt,  will "listen" 'more' to information that supports their belief system than to information that disrupts or questions their belief system.  The underlying hypothesis is that the individual seeks to reduce dissonance or accompanying discomfort created by conflicting information that undermines his position. He will settle for 'satisficing' information without claim to making the optimal decision.

But in many cases, he will side with inputs that justify his original position. Of course, the more individuals are rationally bound (you don't have all the info) the more they will attempt to adjust in a timely satisficing way to the facts. If the former, You could be a die-hard and lose your pants and that of your clients, notwithstanding the information;  if the latter, you could be pragmatic, give yourself and others the benefit of the doubt, and bail-out. After all, the well-known economist and investor John Maynard Keynes evoked the perfect reaction to relieve the dissonance: "When the facts change, I change my mind. What do you do, sir?"

So why are some investors still holding on to the Euro securities...for the same reasons that some European leaders keep promoting austerity measures for public policy notwithstanding the adverse results being generated in  Greece, Spain and Italy.

The dissonance:
Firstly, even though things are difficult in Europe, they're difficult all-around the world. Some will argue that they're already overexposed in equities, in BRICs, in US and other sovereign currency-issuer securities, and even gold-it can collapse on a wind-shift....after which deliberation they move on and argue the next....

...Eurozone economies are not in as bad a condition as selected data suggest. It's quite reasonable to experience hiccups during 'policy transitions' after traveling over rocky roads. And Southern European roads are very rocky according to northern Europeans. Things will smooth themselves out over time. The worst case is if Greece defaults. Let it exit. Nudge Greece out gracefully. The Zone is saved.  This is the message that is being conveyed by European leadership as social tensions in certain countries become more forceful. If that doesn't work out as planned....they move on and argue the next....

...Europe is 'too big to fail'. (Remember Lehmann et al). The US and China won't let it happen- this is Europe, not some mismanaged bank. Some refer to this position as highly speculative; other would consider it quite realistic. Either way, their rationalization recalls Lord Byron's popular but mistranslated line found in his Childe Harolde's Pilgrimage :

   When falls the Coliseum, Rome shall fall;
   And when Rome falls--the World.'

The Eurozone rendition is "When falls the Euro, Europe shall fall; And when Europe falls---the World."

It would carry more credence if it was the US, however.

Here's my take:  If China's growth is projected downwards, if Germany's order book starts doesn't refill to 2010 levels (I don't think it will refill for a long while) and  growth in the US is revised downwards, then you should have bailed to liquid USD, until the facts change!!! If you didn't, think about it.

*I credit Fictional Reserve Barking, Oct 2, 2011, author (Circuit, ) and reader  (JHCraw) for the reference to Herbert Simon's work.

Bernanke: Not Responsible for the Collapse of Markets of Sept 21-22, 2011

The announcement following the FOMC meetings of September 20-21, 2011 was expected. The infrequent decision to 'Twist'- swap short-dates Treasuries against longer date securities, particularly the very long dates, was expected.

Obviously, the respective underlying intention was to promote the consumer and housing sector with inexpensive mortgage financing, and flatten those yield curves and reward tradeoffs across the Treasury spectrum.  Whether those markets react will depend on whether or not the consumer generates demand for either new homes or refinancing existing homes. In both latter cases, the intended consequence is to alleviate pressure on household debt and unlock consumer spending into the economy.

Chairman Bernanke had nothing to do with the markets' collapse world-wide.

At first, the market reacted positively to the obvious, concluding that it had already discounted the Fed's intervention for all intents and purposes. That didn't last long. Some of the more enlightened participants realized that the most important statement had been skimmed over by the markets.  Mr. Bernanke had emphasized in explicit terms the dire prediction on the global economy that was unexpected in the announcement  and, de facto, lent a deaf ear, dismissing the GOP leadership's political rhetoric of the previous day.

Chairman Bernanke,  previously informed by Secretary of the Treasury  Mr. Tim Geithner's return from the meeting of European Finance ministers in Poland last week, characterized his caution on the world economy in the following manner: 

Moreover, there are significant downside risks to the economic outlook, including strains in global financial markets. 

The markets tumbled when players realized that the global economic situation was not tepid but turbid.  Financials leading the slide, dropped across the board, catalyzed by a Moody's downgrade of Bank of America, Citigroup and Wells Fargo on their debt. The only anomaly was Hewlett Packard rallying on a rumour that their CEO had been ousted. Talk about quality trading, as if a new, yet unidentified CEO will reverse macroeconomic circumstances. The morning should reverse the ridicule and ratify the quality of its governance.

All markets in Asia and Europe tumbled overnight. The additional information from Europe and China that the Purchasing Manager's Index (PMI) is contracting, followed by market commentaries that it may suggest deterioration in manufacturing output,  is sending signals globally to investors that the only viable route is away from equities for now- a rush to safety and US Treasuries. In fact, all currencies, except USD, all commodities including gold,  and Treasuries were down or short dates unchanged with the exception of the 6mth yield rising.

But why are BRIC indexes dropping? Fundamentally, there is no structural demand within those economies that can permeate the level of manufacturing and production that has been underlying their respective growths. Until further ado, BRIC depends on Western economies and spending. Suffice it to follow the Russian equity market this day after. Significant is to realize that BRIC cannot, at this moment of their development, drive the global economy out of its slowdown. If Japan could never act as the world engine, why should BRIC assume the role. The same is true of Europe; its lame-duck behaviour is unjustified under the conditions. Europe must put its condos in order, if the investment is to be successful.

What the headlines suggest as Mr. Bernanke's Market Debacle is absolute nonsense!

The nonsense was the GOP's leadership criticism of the Federal Reserve decisions. Boehner, Cantor & Associates' understanding of basic economic realities is unreliable and incomprehensible for that level of leadership. They should simply acknowledge that without employment there is no spending and there are no sources of Treasury revenue; and without revenue sources, there is no deficit reduction. If they persist on professing that deficit myth: that deficits matter for the US economy, they will make matters worse. They should recognize their own shortage of viable solutions, and grasp the moment to support fiscal spending programs. As for Rating Agency downgrades, they don't  matter at this moment.  Recently, they have been shrugged off by all sovereign levels.

Unless the US economy is activated, and this won't happen as a result of Federal Reserve monetary policy, the global economy will remain in a state of stagnation for a long time. It is obvious that any solution must come out of Washington. A reasonable start is to couple that  result from flattening long date yields with an aggressive mortgage refinancing program for the suffering homeowners and well-intentioned consumers.