Addressing Investor Inertia Amid Ongoing Eurozone Crisis
On Sunday (August 5), the Financial Times published an article entitled “Investors Are Suffering from Crisis Fatigue”, which looks into the current situation on the financial markets and the reasons for investors’ low trading activity. The FT columnist, Jonathan Davis, analyses the most recent events regarding the Eurozone debt crisis and how they are affecting investment demand.
It is often said that financial markets pay too much attention to the short term and too little to the long term. Last year the UK government decided to analyse the extent of the truth in this and appointed Professor John Kay, a well-respected economist, to look into the issue and find out whether the stock market was serving the needs of investors and companies. Prof. Kay’s long-awaited report of the UK equity market was published two weeks ago. The interim review concluded that the modern-day stock market primarily serves the interests of intermediaries, rather than those of investors and companies, because a culture of short-termism has been allowed to develop.
!m(/uploads/story/237/thumbs/pic1_inline.png)According to Davis, however, the short-termism debate raises another question, which while related to the general issue, may also be considered more troubling still. The question is how effectively investors are coping with the challenge posed by the ongoing Eurozone crisis. The author of the FT article notices that there are numerous signs of different forms of crisis fatigue amongst investors. The ongoing Eurozone issue is causing numerous problems on the financial markets, the most basic of which is simply the difficulty of making money. Davis gives an example how the increasingly correlated risk-on, risk-off markets affect professional investors’ money-making with last week’s news that the American hedge fund manager, Louis Bacon, decided to return $2 billion (£1.3 billion) from his flagship hedge fund to investors, citing a lack of investment opportunities and recently poor returns. This problem, however, is much more generalised. According to Standard & Poor’s, 2011 was the worst year yet for active managers in recent times, with 80 per cent of large-cap U.S. mutual funds failing to beat their relevant index. Like many others, Mr Bacon has been stumped by the current debt crisis in Europe and what he called the prevalence of “disaster economics”.
Referring to last week’s statement made by Michael Dobson, CEO of the British multinational asset management company Schroders (SDR:LSE), Davis also remarks that many institutional investors are unable or unwilling to commit to investments during the present economic situation. Meanwhile, analysis by academics in San Francisco linked the increasing correlation of stocks in today’s risk-on, risk-off market environment to the high degree of policy uncertainty, the FT article points out. The main source of this uncertainty, according to the academic analysis, is the inability of European political leaders to resolve the long-lasting debt crisis.
Investor inertia is also, of course, behind the current volumes of trading activity, which being very low are putting pressure on smaller stock brokers, Davis further points out. According to him, the equity and bond markets, however, are not really helping themselves in this regard. Considering the excitable way in which they reacted to the plans of Mario Draghi, the European Central Bank’s president, to buy government bonds, underlines how short-termist investors can be. Draghi’s announcement that the ECB is ready for further bond-buying through the Eurozone’s planned new bailout fund, the European Stability Mechanism (ESM), caused market euphoria which was soon replaced by disappointment. This market reaction, according to Davis, showed that Draghi’s statement that the new bailout fund is about to save the Eurozone from collapse, was widely believed by investors.
The reality is that the ESM does not exist yet and ECB does not even have the power to orchestrate such a move. Even if we accept that this initiative is the best action towards resolving the Eurozone crisis, this step can only be taken if all European political leaders approve the bond-buying, and only if then all 17 EU members ratify the move, Davis remarks. For now, such a consensus is far from being clear, with several countries, notably Germany, which have shown scepticism in regards to the proposed bond-buying.
Looking into the bigger picture, Davis, points out the reason why the Eurozone crisis is such a challenge for investors. According to him, the crisis fatigue investors are suffering from is due to the political nature of the issue, whose outcome carries both short term risks and long term consequences – none of which plays to investors’ traditional strengths. “No wonder everyone is praying that one way or another it will be over soon,” Davis concludes.