The Euro Smells A Grexit… Stocks Have Yet To Wake Up

The S&P500 continues to trade in a tight range. Despite all the moves over the last two months, we’ve really gone nowhere.

These kinds of consolidation periods are usually followed by violent breakouts. The problem is you never know which way it’s going to break.

The bigger story concerns Europe, particularly Greece, where the crisis has finally evolved from finance and banking into politics. Previously each round of negotiations regarding Greek bailouts involved politicians who derived all of their power from bankers and the financial elite. As a result, all previous negotiations ended in the banks being propped up while the Greek economy imploded.

This time around Greece has a newly-elected Prime Minister with enough political capital to tell the EU and the ECB to get lost. The risks of leaving the EU are much smaller as there is no hope that another bailout making anything better. Moreover, Russia is standing in the wings ready to provide aid to anyone who would help Putin break open the EU political alliances. Greece knows this.

No one knows how exactly this situation will play out. But the odds regarding a Grexit are much higher than before. The market senses this which is why the Euro took out the support line that held it up throughout the first round of the EU Crisis: 2010-2012.

Time and again, no matter how bad things were in Europe, the Euro failed to take out this line. Not this time.

The reason for this is not really Greece, but what comes after Greece. If Greece successfully negotiates its way to a debt restructuring, Spain, Italy and ultimately France will be lining up next. At that point you’re talking about over a third of the EU economy having to restructure its debt… which would demolish the large EU banks that own those bonds (not to mention the tens of trillions of Euros worth of derivatives bets backstopped by these same bonds).

This is why Greece is such a big deal… because it is the precedent for how the next round of the Crisis plays out. Greece comprises roughly 2% of the EU economy. Spain and Italy and France are MUCH bigger problems to contend with. And they’re all waiting to see what happens (note France recently sided with Greece regarding the possibility of a debt restructuring).

Draghi will need a lot more than a few bluffs to get his way through this one. The market smells blood.

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