What to buy as countries try to escape their debt burdens

The meddling of the world's politicians and central bankers has left the markets not knowing which way to turn. So how can you protect yourself from the volatility it creates? John Stepek explains.

If Europe was hoping for salvation from yesterday's G20 meeting, it was sorely disappointed. What we got was the usual mix of platitudes and half-hearted promises.

There's a vague suggestion that Europe's bail-out funds will be used to buy sovereign debt to drive down yields, which we'll look at below. But the chances of anything concrete coming out of such a gathering are always slim.

Markets are much more excited about a far more important meeting. That ends tonight (British time), when the Federal Reserve announces its latest monetary moves.

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Investors are hoping that Ben Bernanke will ride to the rescue again by at least hinting at unleashing a further infusion of cheap dollars into the struggling global economy.

Will he? Maybe. Maybe not. Who knows?

And that sums up the big problem with today's markets. With all these politicians and central bankers sticking their oars into muddy the waters, what can ordinary investors do to protect themselves from the resulting market mood swings?

How do you solve a problem like Europe?

I was talking to a group of fund managers about Europelast night. Everyone has plenty of ideas on what should' be done. But what should' happen is entirely different from what will' happen.

This is why hedge fund managers are having such a tough time making money out of Europe. The apparently obvious trades - short the euro, for example keep being disrupted by political interference.

The FT reports this morning that the next target for the hedgies is German bunds. It's a perfectly sensible view. My colleague Matthew Partridge recently explained why German bunds could be set to lose their safe haven' status.

I don't think any long-term investor should be holding any low-yielding government debt right now, because it's all clearly over-valued. Trouble is, being right isn't enough for the hedgies. They need to get their timing right too. And their track record on that front has been poor so far.

The good news for the likes of you and me is that we don't have to worry about that. We can simply avoid overvalued assets rather than trying to gamble on whether or not they'll rise even further before collapsing.

If we really want to take a macro view, then rather than worry about what happens next, we can try to ponder what the likely endgame is.

Too much debt means currency wars are bound to reignite

Too many countries in the developed world have too much debt, one way or another. The composition of the debt doesn't really matter. Because the banking system is so badly damaged, private debt is being turned into public debt anyway.

It's funny. A lack of political nerve means we've ended up with all the downsides of bank nationalisation (we taxpayers of the world have to stand behind their debts), with none of the upside (being able to fire managers and wipe out owners).

If you have too much debt, and you aren't willing to default on it, then what can you do? There's only one solution really. You have to pay the debt back with devalued money.

You and I can't do that. You can't repay your mortgage or credit card debt with Monopoly money. But governments can. The central banks can print what they like.

This isn't consequence-free of course it isn't. We've already seen that in the UK. The Bank of England has managed to buy up about a third of the gilts market with printed money. One consequence is that the pound is a lot lower than it was when the Bank started. Inflationis also higher than it otherwise would have been.

But so far, they've got away with it. And that means they're likely to keep doing it. The same goes for the US, as Matthew has discussed here: The US will print more money this year here's how to profit.

And in the longer run, through a series of fudges and baby steps, and crisis meetings, I suspect Europe will end up doing something similar. When confronted with the consequences of letting the banking system go bust in one country, no one is willing to let it happen. The only way to avoid it is through shared liabilities and a weaker euro.

Of course, if everyone else is weakening their currencies, other countries won't be able to tolerate it. The Bank of Japan is coming under severe pressure to somehow weaken the yen, and the Swiss have already taken action to stop the Swiss franc from strengthening against the euro.

Against that kind of backdrop, it probably won't surprise you to learn that I think that holding some gold as insurance is definitely a good idea. But on top of that, gold miners are now looking very cheap and potentially like good buys again. In this week's issue of MoneyWeek magazine, out on Friday, we look at the gold mining sector and some of the best stocks in the sector just now. If you're not already a subscriber, you can subscribe to MoneyWeek magazine.

This article is taken from the free investment email Money Morning. Sign up to Money Morning here .

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John Stepek

John is the executive editor of MoneyWeek and writes our daily investment email, Money Morning. John graduated from Strathclyde University with a degree in psychology in 1996 and has always been fascinated by the gap between the way the market works in theory and the way it works in practice, and by how our deep-rooted instincts work against our best interests as investors.

He started out in journalism by writing articles about the specific business challenges facing family firms. In 2003, he took a job on the finance desk of Teletext, where he spent two years covering the markets and breaking financial news. John joined MoneyWeek in 2005.

His work has been published in Families in Business, Shares magazine, Spear's Magazine, The Sunday Times, and The Spectator among others. He has also appeared as an expert commentator on BBC Radio 4's Today programme, BBC Radio Scotland, Newsnight, Daily Politics and Bloomberg. His first book, on contrarian investing, The Sceptical Investor, was released in March 2019. You can follow John on Twitter at @john_stepek.