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Life goes on in Europe despite all the bad news




With all the hand-wringing in recent days over the ramifications of the Irish bailout and the continued struggle of the other PIGS to avoid default, I thought this chart might have a calming effect. To the extent that the DAX index of German stocks is representative of conditions in general in Europe, what it shows is that Europe is in fact in better shape than the U.S. German stocks, priced in dollars, have modestly outperformed U.S. stocks since the end of the recession, and over the past 15 years. You wouldn't guess it from the hand-wringing headlines, but today the DAX is only 2.7% below its recent, post-recession high. European stocks underperformed noticeably in the late 90s and early 00s, but that was mainly due to a sharp and pronounced depreciation of the euro, which hit a low of 0.827 against the dollar (37% below its value today) in late 2000 and was very weak through 2002.


As the chart above shows, 2-yr Euro swap spreads are elevated, but that merely confirms that European markets are nervous about what is going on. Swap spreads aren't nearly high enough, however, to suggest that there is a serious level of systemic risk or fundamental lack of liquidity in Europe. Defaults and bailouts are not pleasant, but they aren't life-threatening, at least at the present time. As long as markets remain liquid, factories keep operating, and folks continue to show up for work, the European economies should continue to plod ahead, albeit rather slowly, as is the case here in the U.S.

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