Greece election outcome won't change fundamentals: Finaport

In an interview to CNBC-TV18, Hans Goetti, chief investment officer of Finaport says Greece exiting the euro zone is now inevitable in the medium-term. But his biggest worry for the region is the contagion which is likely to spread post the Grexit.

With the debt laden nation’s elections fast approaching on June 17, Goetti says it doesn’t matter which political party wins the election in Greece. “Whoever gets in either you get an immediate resolution by way of a Greek exit or you get some delay until the inevitable happens.”

By August, he expects Greece to run out of cash as he believes the chances of fiscal union are pretty remote. Greece in 2010 committed itself to a reform programme in return for hundreds of billions of euro in bailout funds from the European Union bailout fund EFSF and the International Monetary Fund (IMF).

Below is an edited transcript of his interview on CNBC-TV18. Watch the accompanying video for more.

Q: We had these concerns on Greece but they have abated after opinion polls seem to suggest that the New Democracy party was leading. Do you think Spain is attracting the limelight now? How grim is the situation with Bankia that it would pose a threat to the stability in equity markets?

A: It actually is that is the major reason why risky assets like equities are correcting. We have been saying for quite some time that Greece itself is not the issue. The issue is the contagion effect that you have from the situation in Greece. As far as the election is concerned in Greece, we don’t care who wins the election in Greece, whoever gets in either you get an immediate resolution by Greek exit or you get some delay until the inevitable happens. Latest by August, Greece will run out of cash and then they will have to be bailed out again and then depending on whether they meet deficit targets is going to be an open question.

Spain is in a much more dangerous situation. Firstly it’s a much bigger economy and secondly you have problems in the banking system because you have the property bubble which has popped which was probably worse than in the United States and now we have all thee insolvency issues in banks. So the state has to bailout the banks plus provincial governments which are broke as well. At the end of the day, we see a scenario where the ECB will have to step in one way or the other, which means more balance sheet expansion again.

Q: What do you think is going to happen on June 17? What is the probability of Greece staying in the euro zone and what is the probability of them exiting? What would be the repercussions of both according to you?

A: We think the exit is inevitable. The question is, is it going to happen immediately or is it going to happen in a few months down the road. As I said the election outcome matters little to us because the fundamentals will not change. The fact is that Greece will not be able to meet these austerity targets and the question is whether Germany is ready to bailout the rest of the euro zone. At some point it is probably going to be that the answer is going to be enough is enough. So a Greek exit is inevitable in the medium-term but Spain remains the bigger concern at the moment.

Q: What about other markets such as Italy? Is that something which is then going to emerge as a problem post some solution on Spain?

A: You may recall the Asia crisis in 1997 where a lot of people were saying that when Thailand devalues it’s going to be contained. It was not contained so I think Greece could be the beginning and then the other dominos might fall as well. Spain is next and then the markets will test other countries like Italy for instance and maybe even France. So that is the real issue and I think the question is what is the ECB going to do?

The issue here is the Euro able to survive in the current form and we say that short of a fiscal union there is probably little chance of that happening and the chance for a fiscal union right now seems to be pretty remote.

Q: Yesterday the equity markets in Asia were doing well on reports that China could be considering a fiscal stimulus like we had seen in 2009-10 but then reports suggested that the government there has actually refuted those. How much of a problem is China at the moment? Do you think it will need significant fiscal stimulus for growth to sustain or you don’t see the possibility of that happening in the near-term?

A: While the Chinese economy is clearly slowing, I think the Chinese authorities realise they probably made a bit of a mistake in 2008 when they came up with a stimulus. It was probably a bit too much so you had 30% credit growth year after year and that of course led to asset price bubbles in many areas and the over investment probably. So they do not want to repeat that mistake.

On the other hand, they will also not stand ideally by as the economy slows. So we expect something on the monetary side - maybe a cut in the reverse requirement ratio (RRR) and maybe some fiscal stimulus as well but not to the extent that we had four years ago.

Q: The US markets are just concentrating on Europe now. Are they taking cues from there hence ignoring a lot of the macro data that has been coming out or do you think they are possibly going to take some amount of cognizance of that hence what would be the probability of something like a QE3 now?

A: QE3 is absolutely a possibility. The US economy showed some signs of strength in the first quarter and now we are actually seeing a slowdown again. We have to watch the non-farm payroll numbers that come out on Friday. If there is another weak number coming out, you can be pretty sure that the Fed will respond one way or the other. Now whether it’s QE3 or whatever it is, for instance it could be a possibility that they will try to cap the long-term interest rate at a certain percentage which essentially will be an extension of Operation Twist. So that’s something we have to look for.

The US is facing severe problems in the next few quarters. One is again the debt ceiling that will come up before the election and then going into 2013 the question will be whether the Bush tax cuts will be led to expire which of course will be a fiscal hole of about probably 4% of GDP. So that’s going to be something the market will be concerned about over the next few months. So the positioning is yes, for a short-term oversold relief rally but not much more than that.

Q: What is the possibility of an equity rally in the next few months led perhaps by easing from central bankers? Do you see central banks step-in in a big way if there is any crisis in Europe and that leading to a rally in risk assets or do you think for the moment a rally in emerging market equities is ruled out?

A: If you see, the situation in Europe is coming to a head. Let us say if Greece gets out of the euro zone and the ECB has to backstop everything else then of course talking about the huge quantitative easing step and we think Fed will not be far behind that could lead to a rally in risky assets, especially now where we are relatively oversold. So again this will be a relief rally.

The fundamental issues at the end of day will be earnings, again the expiry of the Bush tax cuts in the United States. We think that at the end of the day there will still be the risk-off trade. The deleveraging cycle has not ended, that is going to be there for another three-four years and any dosage of monetary stimulus will have relatively little effect on the real economy, probably diminishing the effect on financial markets. And any rally that we see will be good but it could be relatively short lived.