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Investors too relaxed on 'Grexit' risk, some fund managers warn

By David Randall and Jeffrey Hodgson

By David Randall and Jeffrey Hodgson

NEW YORK (Reuters) - Tom Sowanick, a three-decade veteran of the investment business, returned from a trip to Greece this week with a "very sobering view" of its debt crisis: he now expects the country to default on its obligations and leave the euro zone.

The founder of New Jersey-based Ahilio Investment Advisors is among a minority of U.S. investors who expect the current tensions between Greece and its creditors to result in a so-called "Grexit", and who are preparing for a potentially major hit to European and U.S. markets.

Investors in the United States have been mostly sanguine over the worsening Greek crisis so far. Italian, Spanish and Portuguese bond yields leapt on Tuesday after talks between Greece and its creditors broke down again. U.S. markets have been less affected, with equities taking only brief hits on pessimistic news out of Greece. The bond market has seen a modest flight to safety and a little more volatility.

But a number of U.S.-based investors interviewed by Reuters said their concerns about a default and potential euro exit by Greece have grown. That view appears not to be priced in to markets, they say, raising the risk of sharp falls if Greece defaults and is forced to leave the euro zone.

"This is my base-case view," said Sowanick, referring to the "Grexit" scenario. "I suspect that European stocks will be hit hard" if Greece and its creditors fail to compromise, he said.

As a result, Sowanick was readying a short bet on Germany's Dax index <.GDAXI> using inverse exchange-traded funds, focusing on the biggest euro zone equity market.

Athens is set to default on a 1.6 billion euro ($1.8 billion) debt payment to the International Monetary Fund on June 30 unless it receives aid. It is one step closer to default and a possible exit from the euro zone after the latest talks collapsed on Sunday.

Investors fear a contagion effect, where interest rates jump in other European nations with heavy debt loads, such as Spain or Italy, and banks holding Greek debt get hit.


Stephen Massocca, chief investment officer with Wedbush Equity Management LLC in San Francisco, said he thinks Greece will ultimately exit the euro, but that the European Central Bank will "step up to the plate" to contain the damage.

"My concern is how effective can the ECB really be if major selling starts happening continent-wide. Does the ECB really have the power to prevent an all-out panic?" he said.

A Bank of America Merrill Lynch survey of more than 200 fund managers released on Tuesday found that only 15 percent of respondents said Greece will ultimately leave the euro zone, with an additional 42 percent expecting a default.

The other 43 percent expect a "good resolution," the bank said. The firm cautioned that a "peaceful Greek outcome" is a necessary condition for markets to rally.

U.S. stocks could fall by at least 5 percent if Greece defaults, said Phil Orlando, one of the co-managers of the $462 million Federated Global Allocation fund.

Spurred by concern about a default, he has lowered his equity exposure in the fund by 15 percentage points over the last six months and increased his cash holdings.

Orlando is more optimistic than some peers about the longer-term impact of a default. He said unlike in 2012, when the prospect of a Greek default roiled markets and raised concerns about another global financial crisis, European banks and creditors have had ample time to prepare, and the ECB would likely respond with substantive stimulus.

The consensus among investors that a Greek exit would have limited U.S. market impact could be too relaxed, said Paul Mendelsohn, chief investment strategist at Windham Financial Services in Charlotte, Vermont.

"I’m never willing to believe the consensus, because the consensus is the herd. We've never had a country part of the euro currency system default, so we don't really know what the impacts are going to be," he said.

Mendelsohn added that he has put hedge positions in place to protect against a downturn.

Some investors are waiting for the dust to settle and snap up euro zone stocks and bonds - whether a deal to prevent Athens defaulting is reached or not.

Even some fund managers who think Greece is more likely than not to reach a deal have been reducing their risk. Rob Waldner, chief strategist for Invesco Fixed Income, said given the likelihood of further volatility during the talks, his group has been trimming exposure to markets such as Italy and Portugal.

"The path that it's going down here is much more tortured and is likely to involve a lot more bumps than we originally anticipated," he said.

(With additional reporting by David Gaffen, Rodrigo Campos, Sinead Carew, Ashley Lau and Jessica Toonkel in New York, and Ross Kerber in Boston; editing by Stuart Grudgings)