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March 2013 Investment Journal 


US stocks turned in a blistering performance for the first quarter, rising 10%, while foreign equities, bonds, commodities and gold lagged:
Relative performance has been shifting among the major groups, with stocks regaining much of their longer term "mojo", especially versus bonds and gold:
The Bigger Picture: A real bombshell dropped on global markets in Cyprus, of all places, over St. Patrick's Day weekend. Meeting in closed session in Brussels after the close of trading on Friday, March 15, the EU unilaterally proposed a "tax" on all bank deposits in Cyprus to raise €10 billion to "bail out" their gutted banks. On Monday, March 18, anyone who had deposits in Cyprus, without any chance to react (ATM's and wire transfer systems were shut down), woke up to find themselves in line to be 6.75% poorer on average, while those keeping over €100,000 were to be hit for 9.9%.
An immediate uproar ensued, with Russian oligarchs fond of Cyprus as an offshore haven spurring Putin to reject the terms, while smaller local depositors looked for any EU politician to lynch. (As a sop, though, worthless equity in bank shares was offered for their Euros.)
It didn't take long for the Cypriot Parliament to reject the proposed bailout, while shutting the banks down for the week (history never repeats but it rhymes; this script could be taken right out of FDR's "U.S. Bank Holiday" playbook from March of 1933). Then, the ECB pushed back, threatening to cut off funds to the dead broke Cypriot banks if they didn't agree to the deposit haircut scheme. (Coercion and browbeating come to mind.)
In the end, the two largest insolvent banks were shut down while any depositor with over €100,000 would have their money seized in a forced contribution to the "recapitalization" of these deadbeat banks. Bank of Cyprus depositors are expected to take a 40% hit, while unlucky Laiki Bank depositors could see an 80% loss. Bank junior and senior bondholders were also wiped out, a first in the "bailout era" (senior bondholders had been spared in the past, as in the Anglo-Irish Bank bailout of 2010, where Irish taxpayers were left holding the bag).
What caused this radical change in the bailout regime? It seems that Uniastrum Bank, based in Moscow, and owned 80% by the Bank of Cyprus, was open for business as usual with no restrictions on withdrawals until late March, when severe capital controls were imposed. (Limits were imposed on credit card transactions, money transfers abroad, and check cashing. Even physical withdrawal of banknotes for transport out of the country was limited.) So, while locals had no access to their money, billions upon billions were withdrawn in Russia from the Bank of Cyprus. Looks like the EU and IMF forgot to check their back. They found that all the money was gone that was supposed to "bail out" Cyprus, so they had no choice but to wipe out whatever large depositors were left, as well as the equity and bond holders.
Any way you slice it, the Cypriot bailout is a new model of government theft that masquerades in broad daylight as prudent policy. Euro bank depositors have been given €10 billion reasons to never trust their banks again. And, while these capital controls are designed to be temporary, there is no doubt that it will take a long time before money stops leaving Cyprus, and, more importantly, other "wealth havens" like Malta and Luxemburg. We suspect that Spaniards, Italians, and Portuguese, among other stressed Eurozone depositors, will take the hint and begin their own stealthy withdrawal of funds lest they too be confiscated in the dead of night. This has all the makings of an epic "run on the banks" in the Eurozone, and will surely benefit banks and currencies in the USA and Asia.
Near term picture: The evolution of the Eurozone mess is likely to come into sharper focus throughout the Spring. The Germans are being blamed for a more strident anti-bailout attitude, but we know that it is related to their upcoming Federal election this Fall. For now, we'll have to see whether other banks in the Eurozone get "tested" by depositors.
The result of all this is that there is a more positive sentiment towards US assets, whether it is the Dollar, stocks or bonds. And if the Cypriot Robbery wasn't enough, don't forget that Japan has embarked on a long term devaluation of their currency, which means that Mrs. Watanabe will probably want to own some US stocks and bonds too. For now, it seems the USA is the best game in town, and investors are likely to benefit from stronger flows into all US markets.
Thanks for reading our Journal, and we'll update next you as soon as May gets underway.

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