Investors must try to keep their cool as the eurozone debt crisis heats up

THE eurozone crisis has set investor nerves fluttering in recent months, with sovereign debt concerns triggering market turbulence.

But what does it actually mean for private investors and those with pension savings held in the markets? And how should they react – is it time to check you’re not overly-exposed to the eurozone, or is it an opportunity to snap up bargains?

What isn’t in doubt is that investor confidence has been rocked by events of the past three months. What happens next is anyone’s guess. Jennifer McKeown, senior European economist at Capital Economics, believes it is now all but certain that Greece won’t be the only country in Europe forced to default on its debts.

Speaking at the group’s conference in Edinburgh recently, she warned that the eurozone’s chances of survival “have fallen considerably”, and said it is unlikely to survive in its current form. “Major sovereign debt defaults are inevitable, with severe financial and economic consequences,” she added.

Capital Economics forecasts eurozone GDP growth of 1.7 per cent this year, before plunging to -0.5 per cent in 2012 and -1 per cent the following year.

In contrast, emerging markets’ GDP growth is expected to be no lower than 5 per cent over the next two years, easily outstripping advanced economies.

So what does this mean for investors? Should you re-balance your portfolio to take the current crisis and the outlook for the developed economies into account? Should you change nothing? Should you increase your exposure to other areas, such as emerging markets, or even assets such as gold?

Increased sales of cautiously-managed, absolute return and corporate bond funds suggest many have fled for safer ground.

But others have refused to be deterred by the crisis. Three in ten investors surveyed by Barclays Stockbrokers said a eurozone bailout would restore their confidence in the region and 13 per cent said they’d increase their exposure to the eurozone in the event of a bailout.

And more than a third said the recent volatility had not affected their outlook, which would remain the same whether or not there is a bailout.

Only a minority – 14 per cent – said they had switched their focus elsewhere, with emerging markets and North America among the popular alternatives.

Iain Wishart, owner of Edinburgh’s Wishart Wealth Management, believes investors should keep faith with European equities. He pointed out that as far as markets are concerned, much of the bad news is already priced in and reflected in valuations.

He said: “Bloomberg reported in September that the swaps market has already priced in a 95 per cent probability of a Greek default. Many European shares are doing rather well, owing largely to demand from emerging markets.”

Others warn against making investment decisions based on what the global and European economies may do in future.

Paul Lothian, chartered financial planner at Verus Financial Planning in Dundee, said: “We may all have to accept low economic growth and relatively weak stock market returns for several years to come. There are a lot of similarities between what we are confronted with now and the ‘lost decade’ Japan endured in the 90s – ultra-low interest rates, price deflation, asset prices diving and not recovering. What policymakers do to stimulate growth will be critical.”

So as doubts continue on the future of the eurozone, what do our experts believe investors should do to ensure they’re not caught up in the fall-out?

Diversification is key here – spread your investments across a range of assets so that you’re not in too much trouble if one or two areas experience volatility.

Wishart said: “Investors should never own so much of one asset, such as European equities excluding the UK, where they could make a killing, or be killed by it. Investors would do well to concentrate on their wider plans … rather than worrying about the crisis of the day.”

Lothian said: “The starting point for an investor should be to determine their pension portfolio’s current exposure to European equities and bonds, and underneath that high-level analysis, work out their exposure to the euro banking and finance sector in particular.”

Perhaps the second key is to remain focused on the long term, once your investments are properly diversified.

Most investors are in it for the long term, usually with one eye on pension savings and aiming for growth that accumulates over the years rather than making a short-term killing. That means not reacting to short-term volatility, as fluctuations in values are typically smoothed out over the long run.

Lothian said: “The timescale context is very important: If retirement is more than ten years away, doing nothing is probably the best course of action.”

That means sitting tight when your emotions might be telling you to do something, though that is easier said than done.

If one thing is certain, it’s that during times of crisis, good independent financial advisers (IFAs) more than earn their money.

The emotions felt by investors during large fluctuations in equity and bond markets can drive many to flit between asset classes in a doomed bid to make short-term gains. That’s why advice can be especially valuable.

Matthew Robbins, an IFA at HW Financial Services in Edinburgh, said: “Only sophisticated, experienced investors should make the decisions themselves that could result in huge losses.

“There is not only the problem of choosing the right asset class to invest in at the right time, but also deciding when it is best to switch out of this asset class and what to switch into when market conditions alter.”