Last week, U.S. Federal Reserve Chief Ben Bernanke announced the extension of Operation Twist, a program designed to keep borrowing costs low and spur a complacent economy.
Bernanke also said the Fed was ready to take additional action to spur economic growth if the circumstances warrant it. He wasn't specific on what those circumstances were, but everyone on Wall Street knew what he was referring to: an escalation of the European sovereign debt crisis.
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Right now, the European Union is at the precipice of destruction. Before elections last week, Greece was about to exit the euro zone. In addition, Spain's borrowing costs reached record levels. The crisis could break up Europe's monetary union without sweeping action to reassure markets.
The possibility of the dissolution of the euro zone has markets trembling. If the split were to actually occur, it would decimate many European economies. It would also cause severe shocks here in the United States.
The best-case scenario is that European nations come up with a solution that calms the storm. The worst-case scenario sees the end of the euro zone, an event that would have disastrous consequences for world markets.
"In Europe, they're in such bad shape. They have to reform their whole mentality. They can't pay their bills," says Mike Chadwick, an investment adviser at Chadwick Financial Advisors.
As Europe lingers on the brink, many investors are concerned that a collapse of the euro zone would pummel their portfolios. And according to financial advisers, this concern is reasonable. But advisers also say there are ways to insulate investments from the crisis, and that long-term investors could actually benefit from it.
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Limit direct exposure. Tom Orecchio, a principal and wealth manager at Modera Wealth Management, LLC, says many of his clients are rightly concerned that the euro crisis could affect their investments in the same way that the collapse of Lehman Brothers did in 2008. He recommends that investors check how much of their portfolio has exposure to Europe.
"The first thing they need to understand is the current exposure, beyond the sentiment exposure," meaning the inevitable exposure investors have simply because a euro collapse would negatively affect nearly all markets, Orecchio says. "The key is to understand what your direct exposure is as an investor. Are you in internationals? Are you in large cap or emerging markets?"
Once exposure is understood, investors can then take steps to insulate their investments from the worst of the potential crisis. "If you're concerned about a dramatic drop in stocks or the euro, the right move would be to buy the dollar, the direct beneficiary [of the sliding value of the euro]," Orecchio says. "If you're concerned about the sentiment hit and you are looking to make a change, the money should flow out of stocks and into bonds."
Chadwick advises against broad positions in equities altogether. He says the euro crisis, combined with an overvalued market due to federal government stimulus, could spell disaster for stocks.
"I'd stay out of stocks right now," Chadwick says. "You have to be defensive today. The market is on government crack with all of the stimulus. I'd have a lot of cash right now."
Long-term opportunities. Both Chadwick and Orecchio say long-term investors interested in returns over decades shouldn't panic over the crisis. If the worse does occur, their investments will take hits, but over the years, value will return.
"Over the long term, there's great values," including in small, fast-growing companies, Chadwick says.
There is also value in emerging markets outside Europe. Growth in emerging markets has beaten growth in developed markets every year since 2006 and by an average of nearly 10 percent. At the same time, the emerging world's gross domestic product has doubled.
Orecchio says undervalued stocks also provide investment opportunities for patient investors. "There's value to be had in Europe. There's potential for greater growth over time in the European market, more so than in the U.S. market. You have to be willing to be a long-term investor," he says.
"What many Americans went through [with the collapse of Lehman], they're gun-shy," Orecchio adds. "But you buy when there's blood in the water. Well, there's blood in the water right now."