January 10, 2012 at 09:37 AM EST
How to Profit From the Euro Zone Crisis
A deepening crisis in the euro zone is unavoidable, so play it to your advantage. Here are three strategies to keep you safe from the debacle.

Uncertain times are a boon for savvy investors. From uncertainty comes opportunity, and one of the great opportunities that exists now and in the near future is in Europe.

If you aren’t yet familiar with the euro zone’s sovereign debt crisis, you should be. In short, governments in Europe have borrowed more money than they can ever possibly repay. That means those countries may default on loans made to them. Who made those loans? Banks. Where are those banks? Europe. Who else made loans to those countries? Other European countries.

So if defaults occur, it will start a cascade of defaults across the entire European banking system and trigger liquidity crises among all the other nations that have been lending to each other.

How much have countries been lending to each other? Take a look at this chart, which shows the ratio of public debt to GDP. Debt in these countries is essentially equivalent to all the entire gross national product of each country.

How does this nightmare resolve? Through massive deleveraging. Banks and other nations stop lending to everybody, including consumers. You know what that means if you’ve been paying attention here in the U.S. It means businesses can’t get funding to grow, which means they don’t hire, which means high unemployment, which means there’s less money available for consumption, and the vicious cycle begins.

But that also creates opportunities. Let’s examine a few of them.

First, short the euro, whose value against the U.S. dollar has already tumbled and is likely to keep heading lower.  The only viable way to short the euro is to do so via a leveraged ETF. I use the ProShares UltraShort Euro (NYSE:EUO), although you can also use Market Vectors Double Short Euro ETN (NYSE:DRR). The former is more liquid than the latter. Also note that these are 2x leveraged ETFs, so they will be volatile.

Next, buy U.S. Treasuries. Investors in Europe aren’t touching their own debt, but they will touch ours, even though we’re ultimately headed down the same route. That’s because the perception of the U.S. is that it will never default on its obligations. So, despite T-bond yields being sickeningly low, there is some capital gain upside in the near-term. I’d go with iShares Barclays 7-10 Year Treasury (NYSE:IEF).

Those are your short-term plays. Once the currency crisis hits its peak, you’ll want to sell out of those positions. Then you’ll want to look at European hard assets, like real estate, because that’s what people want in times of economic crisis.

The best way to accomplish this is with Vanguard Global ex-US Real Estate ETF (NASDAQ:VNQI), which Morningstar calls, “the lowest-priced fund for broad exposure to publicly traded, international (both developed and emerging markets) REITs and real estate operating companies.”

I’d also buy gold via SPDR Gold Shares (NYSE:GLD). For those who dislike the volatility of the yellow metal, you can instead buy the only stock that does business in the gold trading market, DGSE Companies (NYSEAMEX:DGSE).

Finally, once bond yields truly have gone as low as they can, I expect investors will finally wake up to the great opportunity afforded by preferred stocks, which offer tremendous safety and high yields. They’ll benefit as a substitute for lousy bond yields.

Lawrence Meyers holds shares of EUO and DGSE.


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