CAPTRUST Chief Investment Officer
Youth sports have taken a much different turn from what they were in my day (just reading that sentence, and listening to the cracking noise from my right knee as I ascend stairs, confirms that I am officially old). All three of my children, ages 12, 9, and 4, play a variety of sports, leaving my wife and me to help coordinate car pools, tournament sign-ups, and other logistical feats, not the least of which includes halftime and post-game snack detail. Having taken several operations classes in graduate school, I feel I have been reasonably trained for handling this trying schedule.
Currently, all three children play soccer, which for the eldest two entails long road trips across state lines (a recent Final Jeopardy! question on TV asked contestants which of the original 13 colonies was the widest, and I correctly blurted “North Carolina!” — my knowledge based 100 percent on experience), and as much as I try to commiserate with fellow road-weary parents, I am told that your kids grow up faster than you know it, so I try to savor every moment.
Given the distance of some of these trips, conversations can head into interesting places. I am not allowed to discuss boys with my 12-year-old daughter (I am in a state of suspended disbelief anyway, so I am not sure what I would say), and our musical tastes mostly diverge, but Hailey does like to talk about current events. Given our European heritage, Hailey has always had an interest in the Continent, but the convergence of recent developments and weekly current events assignments in social studies have made today’s European plight of particular interest. Being a rising seventh grader with her mother’s brains, Hailey understands concepts like debt and even productivity differentials across countries. We have kept up a running dialogue during trips about the latest European developments. Hailey’s nine-year-old sister Elle is not quite ready for such concepts, but she too knows that part of her dad’s job is to keep aware of current events. When I try to explain to her what is going on in Europe, the most digestible explanation is that it is a leadership crisis.
European policy makers have a challenging task assigned to them; the region’s countries have disparate productivity levels, growth potential, and debt characteristics along with minimal fiscal integration — yet they share the euro as the common currency. The original Maastricht Treaty, signed two decades ago at the European Union’s inception, attempted to enforce fiscal rules by imposing penalties on countries whose debt-to – Gross Domestic Product (GDP) percentages exceeded 60% or whose budget deficits exceeded 3%. However, once large countries like Germany and France breached those limits, policy makers looked the other way. German and French leaders missed an opportunity to lead by example, and the initial fiscal control attempts gave way to self-determination, or in Elle’s world, handing in a book report and grading it yourself.
The twentieth European Summit since the Greek crisis began in 2009, held June 28–29, 2012 in Brussels, was met with considerable fanfare. Leaders released a statement long on what they intend to do (including the potential for a centralized European bank regulator, easier access to aid capital, and other considerations) yet short on how they will do it. Successful implementation is a cross-country coordination problem, described eloquently in Surowiecki’s The Wisdom of Crowds. Surowiecki details how some groups excel at coordination (schools of fish, New York City pedestrians) while others have had historically weak performance (the fragmented U.S. intelligence operations). Europe’s individual countries are driven first by self-interest and a distant second (or perhaps third) by their common bond as Europeans. Most U.S. citizens view themselves as Americans first and Iowans or South Carolinians second; this identity helps our governments, at least on a relative basis, to react more quickly to crises and coordinate better than Europe.
We are in an environment driven by policy makers, so we must consider one other variable: political self-interest. A recent quote by simultaneous Luxembourg and Eurogroup President
Jean-Claude Juncker aptly summarizes this conflict: “We all know what to do. We just don’t know how to get re-elected after we’ve done it.”1 Whether or not all European politicians truly know what to do, Mr. Juncker’s quote does provide insight into why Europe may be focused on certain types of legislation that appear more popular with constituents.
Take, for example, the European Court of Justice’s late-June decision that European Union citizens who get sick while on vacation must receive paid time off equivalent to the duration of their illness.2 This benefit is layered on top of the EU minimum of 20 paid vacation days that can be superseded by more favorable national laws like those in France, which allows for ten days of vacation for those working up to 39 hours a week on top of the national 25 day minimum, or Spain, which allows three weeks of vacation for marriage.3 It is hard to compete in a globally integrated marketplace if you are not in the office very often. These are certainly policies that may get you temporarily elected by the beneficiaries of such generosity, but it will also lead to rampant unemployment, lower productivity, and a perpetual state of uncompetitive bliss, which leads to youth unemployment rates of 22% for countries using the euro versus 11% for the total Eurozone. Most strikingly, Greek and Spanish youth unemployment stands at over 50%. These are not levels consistent with leadership and today’s global economic realities.
A graduate professor of mine, Dr. Michael Useem, wrote a book called The Leadership Moment, which chronicles nine leaders throughout history and across geographies, detailing moments they faced as leaders and the choices they made, some with favorable results and some with catastrophic implications.
Europe is facing its own set of leadership moments, but as we approach the twenty-first European leadership summit, it is time to be long on details and short on promises. I applaud Europe’s focus on work-life balance, but global capital markets and economic forces are indifferent about Europe’s intentions. They seek results. More open labor and trade practices, fewer unsustainable benefits, and a more credible path toward debt reduction are all steps capital markets need to see before we can reverse Europe’s negative feedback loop. Otherwise, investors will cling to political developments, press conference outtakes, and the “he said, she said” of back room negotiations. Case in point was yours truly on Father’s Day, alternating between the U.S. Open golf tournament and Greek election coverage — not your typical Sunday programming schedule.
The U.S. faces its own leadership moments later this year with the presidential election as well as the impending “fiscal cliff.” These events, coupled with the ongoing European saga, will continue to shape markets and portfolios more than anything else. I am encouraged when I read quotes from the likes of Italian Economic Undersecretary Gianfranco Polillo, who states that having Italians work one more week a year would help jump-start productivity, but I fear it may take further market pain to push policy makers into durable reforms.
In this environment, we continue to recommend that Clients greatly spread out their portfolio risks; capital market environments driven by policy makers are fraught with volatility and we expect the tug-of-war to continue until the hard choices are made. As such, taking heroic stands for or against asset classes may work against you. As an example, the 10-Year U.S. Treasury touched an all-time low yield of 1.44% on June 1, and as paltry as that yield may be, should things deteriorate in Europe, the “fiscal cliff” become a reality, or the global growth picture rapidly decelerate, that yield could go a lot lower. Not having that defensive exposure could hurt when you need it the most.
I want to write columns rich with charts, data, and provocative hypotheses. I want to drill into specific asset classes and opine on what will fundamentally drive them. But those variables are subordinated by macroeconomic developments, specifically political economy challenges that we will continually digest in our goal to help CAPTRUST Clients navigate through a difficult landscape. We are seeing some progress out of Europe, but we need to see more; the aforementioned U.S. issues await. No rest for the weary, dear travelers; it’s time to put both hands on the wheel and continue on this road trip. We at CAPTRUST are committed to handling whatever roadblocks capital markets may put up, but like a Freedman family weekend soccer excursion to Anytown, North Carolina, it is likely to be a long drive. Just remember, no talking about boys.
2, 3 http://online.wsj.com/article/SB10001424052702304782404577490130796396386.html