Reminder of crisis in euro zone

A RATINGS downgrade of nine European economies including France and Italy is set to to drag the Australian market lower at the open today, reinforcing fears that the crisis in the euro zone is "alive and well".

A RATINGS downgrade of nine European economies including France and Italy is set to to drag the Australian market lower at the open today, reinforcing fears that the crisis in the euro zone is "alive and well".

But the fall on the local market is expected to be moderated by the fact that Standard & Poor's decision to downgrade the countries of their credit ratings on Friday had been largely anticipated by investors.

Futures markets yesterday picked the

ASX/S&P 200 Index to fall 17 points to 4163 in early trading today, although some observers believe the market could drop 40 points.

Wall Street sustained a mild fall on Friday on speculation of S&P's reappraisal of the European economies' creditworthiness. In downgrading nine countries, S&P warned there was a 40 per cent chance of a recession in the crisis-hit euro zone, which could shrink by 1.5 per cent this year.

The ratings downgrades in Europe have also reinforced Australia's relative health, given it is one of just a handful of countries, including Germany, to retain a AAA credit rating. That means investors will continue to see Australian bonds as a haven.

Prime Minister Julia Gillard used the downgrades as a chance to call for European leaders to "swiftly undertake structural reforms to boost their economic potential and lift growth".

While Europe had avoided a full-blown meltdown of the magnitude of the 2008 global financial crisis, AMP Capital Investors chief economist Shane Oliver said the debt-laden euro zone would "just continue to muddle along" and be a "brake on the local Australian economy for the next year or so".

"It should be largely anticipated [by Australian investors], but that said, we should still be a bit weaker at the open," he said yesterday. "It is telling us that the European crisis is alive and well. The fiscal austerity leads to economic deterioration and budget deficits blown out. It has the effect of worsening the economic outlook."

Australians investors are taking some optimism from the US economy looking stronger than it was three to six months ago, and indications that China will face only a soft landing.

However, investors are likely to be rattled by renewed concerns about Greece after a breakdown in talks between the Greek government and creditor banks on Friday over the size of losses investors face.

Will Seddon, a portfolio manager at White Funds Management, said the ratings downgrades had been largely anticipated but investors were concerned about the longevity of mild improvements in the US.

"People will be wanting to wait and see and not go in too hard in any direction. You don't want to go too short because if the US keeps on improving there is a chance of a big rally, but at the same time you don't want to back the long side too heavily," he said yesterday.

"There is also the China wildcard. It is hard to see some sectors [in China] landing softly."

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