Just when the Greeks thought things couldn’t get much worse, their entire country has been relegated.
Russell Investments, a US-based index and fund management company, has ‘reclassified’ Greece. It’s no longer a ‘developed market’. It’s now an ‘emerging market’.
It can’t come as a huge surprise to most people. And you may not think that it’s that big a deal. However, it does force any funds that can’t hold emerging-market stocks to sell or avoid Greek shares. The Athens Stock Exchange took a tumble on the news.
But unlike the average fund manager, you don’t have to follow any such rules.
It may sound slightly unhinged given the state of the economy, but this could be a buying opportunity for investors with iron stomachs…
Get ready for another spat over Greece
Europe’s reaction to most problems is to try to buy time and hope the issue will go away. There are good reasons for this approach.
Germany and the other northern European countries don’t like the idea of directly bailing out their southern neighbours. But they don’t want to simply print money either, and risk inflation.
So Europe would prefer it if the troubled countries quietly got on with cutting their debts. In return, the European Central Bank (ECB) can keep markets off their backs by promising to buy their debt if necessary.
Trouble is, that depends on the peripheral countries holding up their end of the deal, and at least trying to sort out their balance sheets. And on that score, Greece is testing everyone’s patience.
The latest crisis revolves around revenue collection. One of the main demands of the ‘troika’ (the European Commission, the ECB, and the International Monetary Fund) has been that Greece raises more money from taxes.
But progress has been very slow. Last year, Greece was set a target of collecting €2bn in unpaid taxes. It seems to have managed to pull in €1.1bn. This means the total level of back taxes owed continues to grow – it now stands at nearly a third of GDP.
This in turn has a knock-on impact on the deficit (the annual overspend). While it is much lower than it was in 2011, the gap between revenue and spending is still 3.5% of GDP – a huge amount, given that the ECB has been intervening to keep rates down.
The troika has now started to review Greece’s progress. If it feels that not enough is being done, it could demand more action – which in turn could lead to a backlash from Greek citizens. Meanwhile, with Germany facing an election in September, Angela Merkel will be under pressure to take a firm line with Greece.
With neither side willing to give, we may see another crisis flare up. That could lead to either Greece exiting the euro (and so returning to the drachma), or the ECB being forced into printing money. While disruptive, either outcome would send Greek stocks higher.
The main reason to buy Greece
But why would you buy Greece with all this danger and uncertainty surrounding it?
There’s only one answer: because it’s still very, very cheap. The Greek stock market has jumped by about a third since I first tipped it last June. It now trades on around ten times trailing earnings.
Now that’s hardly bargain-basement levels. But that changes if you look at the index in terms of its cyclically adjusted price/earnings (CAPE) ratio. The CAPE aims to smooth out the ups and downs of the business cycle and give a true picture of how expensive a company or index is.
On this basis, according to Barron’s magazine, the price/earnings (p/e) ratio of the Greek market is just 2.5. This compares with a CAPE of 13 for the UK, and more than 22 for the US. Since 1881, the US CAPE has been above five for all but one month, including during the Great Depression in the 1930s and the bear market of the early 1980s.
Of course, it’s important not to get carried away. While these metrics show that Greek stocks are cheap, they probably overestimate the extent to which they offer value. Remember that before the financial crisis kicked in, low interest rates and a consumer boom artificially boosted the Greek economy (a bit like Britain’s). This means that some of the post-crisis decline is permanent.
It’s also hard to properly value even tangible assets, such as buildings and land, during times of economic crisis. The fire sale of six Greek islands to the emir of Qatar for a fraction of their original price shows that forced sales usually involve large discounts.
However, as my colleague Tim Bennett has pointed out, there is strong evidence that stocks do much better when CAPE ratios are low. Other studies by James David and Jeremy Siegel have found a similar effect for price-to-book value.
How to invest
I appreciate that this investment isn’t for everyone. And I wouldn’t bet the house on it. By comparison, my colleague John Stepek’s advice to invest in Italy looks tame.
But if you’re tempted, then the simplest way to buy into the Greek market is through a broad-based exchange-traded fund such as the Lyxor Athens ETF (Paris: GRE). However, if you want to buy individual shares, Saxo Markets offers access to the Athens stock exchange.
FHL I Kiriakidis Marbles and Granites SA (Athens: KYRM) is a major marble exporter. It should do well if money-printing reduces the value of the euro, or Greece leaves altogether. While its share price has doubled in the last year, it still trades on a p/e of only 6.3, and at 55% of its book value.
Bakery and confectionary group Karamolengos Bakery Industry SA (Athens: KMOL) is one of the few Greek firms that has managed to keep increasing its sales. It has a p/e of 5 and trades at just over a third of its tangible book value.