Notwithstanding for one of the world’s wealthiest men, $18bn is a major wager. That is the sum fence investments manager Ray Dalio has staked against eurozone values. It is the greatest short out there in a market where most financial specialists have been bullish. It is a significantly contrarian call.
And yet Dalio has a record of getting these calls right. He is the founder of one of the world’s largest hedge funds, Bridgewater Associates, and has an estimated fortune of $17bn. You don’t make that kind of money as an investor without getting a few things right. He was ahead of the pack in predicting the global financial crisis of 2008 and 2009, and that made his reputation as one of the savviest players in the market.
That helps explain why the billions his firm has staked against Europe, including big wagers against firms such as Siemens and Daimler, have attracted attention. If Dalio is betting against something, it’s wise to pay attention.
So far, the man himself has said very little about the thinking behind the move. But there are three good reasons for thinking the eurozone could well be heading for a sharp correction, if not a complete collapse. First, there are signs Germany is slowing down, and if it slows, so will the whole eurozone. In the fourth quarter of last year, for which figures have just been published, consumer expenditure was completely flat. Investment spending didn’t rise, and construction actually declined. Overall, demand rose by just 0.1% and that was thanks to exports, always the saviour of the German economy.
That might be just a temporary slowdown. But if it’s something more serious, it will knock the whole continent.
Political chaos to come
Next, there is still a lot of political chaos to come, with elections in Italy, and potentially fresh ones in Germany. Nobody has any real idea what might happen in Italy next week. There could be some form of grand coalition under Silvio Berlusconi or a caretaker prime minister, or the populist Five-Star Movement could take power. Whatever happens, with anti-euro parties potentially winning a majority, it is not going to be good for the EU or the single currency.
In Germany, the situation might be even more serious. Angela Merkel’s grip on power is looking ever more tenuous. If there are fresh elections then deadlock will be the most likely outcome. A return to political stability, following the elections in France and the Netherlands, had been a major reason funds shifted towards Europe this year. If chaos is back, and with it a threat of the euro breaking up, that money is going to disappear very fast.
Thirdly, the European Central Bank (ECB) is still printing money like crazy, but there are signs it is losing its bite. Over the past two years, the central bank has pumped €1.2trn into the economy as well as slashing interest rates down close to zero. It has been a massive blast of stimulus. It has pushed growth back up to 2.5%, and finally started to bring unemployment down. But credit growth has stalled, and the rate of price rises is still well below target. The eurozone is starting to look a lot more like Japan than the US – its quantitative easing (QE) has not engineered a sustained recovery.
A bet against China
There are other possibilities as well. There has been some speculation that Dalio is betting on a severe downturn in China, and is shorting some of the big European companies that rely on it for exports because it is hard to bet against Chinese equities directly. Or a hard-line German candidate might become the front-runner to replace Mario Draghi at the ECB. That could mean the end of QE, and possibly no more support for peripheral bond markets. Overall, it’s clear there are plenty of potential events out there that could derail the European markets.
The eurozone has recovered better than most people expected in the past year. But it has been a fragile recovery based on printed money and an illusion of reform. Dalio has seen through that, and is betting big that it will collapse. He may well be right. And if he is, ordinary investors need to think about joining him.