Tags: Haircut | Default | greek

War of the Words: Haircut Means Default

By Andrew Packer   |   Friday, 28 Oct 2011 08:11 AM

Perception is reality.

We’ve all heard that saying at one time or another.

In finance, it’s reflected in the efficient market theory. This theory states that all known information about a company is already reflected in the price of its stock.

On a broader level, it means that the market always “correctly” prices all known factors. Only new data such as earnings or a company announcement will affect stock prices. As an investor, you have no true opportunities to outperform the market.

This theory works often enough over the broad market to still carry significant weight. But it doesn’t always fit the facts. After all, some investors bought stocks in early 2008, believing the news by bankers and politicians that the crisis in subprime mortgages was “contained.”

You might have also invested in companies with large growth rates that appeared would continue to infinity. But if you’ve been a Netflix shareholder the past few months or an Amazon shareholder the past few days, you know that when the perception of infinite growth stops, share prices drop, wiping out years’ worth of gains in a few weeks.

So I shudder when I hear the perception that European policymakers are trying to shove on the world. Politicians and bankers are calling their solution to the Greek crisis a “haircut.” Sounds like a nice term, at least compared to what it really is: A default.

Language is precise, and substituting different words makes a vast difference to change perception.

Greece’s “haircut” is a staggering 50 percent. Imagine putting a substantial amount of your wealth in US bonds, only to wake up one morning and find the value knocked in half. You wouldn’t call that a haircut, you’d call that an outrage. A travesty.

This is the third time Europe has had to deal with Greece. Even with a 50 percent haircut, it won’t be the last. Despite the announcement of austerity measures, Greece still won’t bring in enough revenues to make full payments on its debts.

This is just yet another so-called solution that partially involves extending and pretending.

Or, as a politician might call it, “perception management.”

Beware Greeks bearing bonds. And beware government pronouncements about the economy.

Everyone has an agenda, and with the largest resources, it’s easy for government’s perception to define reality.

At least, until things go wrong.

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