Another European financial crisis roils our savings

Euro coin

Most of us never thought Spanish home prices were something we’d have to worry about.

Yet a collapsed real estate bubble in Spain is at the heart of the latest financial crisis in the European Union’s seemingly endless series of financial calamities.

Although Spain’s problems are very different from those that plague Greece, which sent the EU into a panic last summer, the result feels depressingly familiar to American savers.

U.S. and world markets have swung wildly in reaction to nearly every bit of news as Europe’s leaders have struggled to control the unfolding Spanish crisis. Once again, U.S. investors find themselves whipsawed by distant events beyond their control.

What’s a worried saver to do when events abroad are this unsettling?

Julie Jason, a personal money manager and retirement expert, says overreacting to news like that coming out of Europe, often contradictory and confusing, is a danger for the average investor.

“You can’t control what’s going on in Europe,” says Jason, the author of Managing Retirement Wealth: An Expert Guide to Personal Portfolio Management in Good Times and Bad (Sterling Publishing, $16.95) and other financial guidebooks.

“What you can control is how much is coming into your household, how much you’re spending and saving, and how you structure and manage your (investment) portfolio,” she says.

If you have investments through a 401(k) plan or Individual Retirement Account that include mutual funds with European holdings, you might want to sit down with a financial adviser and review your portfolio.

But Jason says investors need to recognize that “there’s uncertainty in the markets at all times. The only exception is when we’re in the middle of a bubble and the market looks certain.”

In fact, Spain’s situation illustrates that the certainty that seems to come with market bubbles is the greatest risk of all. It also reveals the complicated nature of the Eurozone’s problems.

Unlike Greece, Portugal and Italy, countries that got into trouble by running up huge government deficits, Spain had its spending under control. The country, on average, ran balanced budgets for a decade before the global downturn in 2008.

But much like the U.S. before its housing market crashed, Spain’s prosperity had been largely based on soaring real estate values. House prices rose 44% from 2004 to 2008, according to Spain’s Ministry of Housing. Since the bubble burst, they have fallen 25%.

The collapse left the nation’s banks badly overextended, particularly because they had borrowed internationally to finance the bubble. When the Spanish government stepped in to back the banks, the cost of its borrowing and its deficit also soared.

The consequences have devastated the Spanish economy. Unemployment is near 25%. Among young people, it’s about 50%. Faced with a growing hole in its budget, the government has announced austerity measures that have fed massive social unrest.

Europe’s struggles are also a drag on the world economy, including the U.S. recovery. As President Obama noted in comments this June, Europe, taken as a whole, is the United States’ largest trading partner.

American companies have more than $1 trillion in direct investments in Europe, according to congressional testimony last December by Douglas Elliott, a former investment banker and economics fellow at the Brookings Institution in Washington, D.C.

And while U.S. financial institutions have been reducing their exposure in Europe, they still held $2.7 trillion in loans and other commitments in the Eurozone at the end of last year, Elliott told Congress.

“The big change we’ve seen over the last 20 years is that there’s so much integration in world financial markets. It’s a world market now,” says Richard Sias, head of the Department of Finance at the University of Arizona in Tucson. “What happens in Europe is going to affect us. We’re seeing that every single day.”

If you are holding stocks in companies or banks heavily invested in Spain, Greece or the Eurozone as a whole, they deserve a closer look.

But in general, when it comes to building retirement savings, financial analysts are virtually unanimous in saying the long view is essential.

Retreating to FDIC-guaranteed money market accounts or CDs might feel like the safe choice, but with the historically low interest rates those savings options are now paying, they come with their own risk.

The risk is that you won’t build the savings you need for your retirement or to meet other long-term goals. The stock and bond markets remain an essential part of any portfolio that hopes to provide real gains over the long run.

“A real conservative strategy, something like where you’re putting 100% of your assets in CDs, leaves you with so much exposure to inflation that it’s really not that safe,” says Sias.

As you near retirement, however, a more conservative approach to investing is warranted. You don’t want a last-minute market downturn to undo your plans.

Many Americans have their retirement savings in funds that automatically adjust the mix of investments over time, becoming more conservative as retirement nears. But these target-date retirement funds don’t mean you can set up an automatic deposit and forget about them.

“Every investment decision has to be watched and monitored over time,” says Jason. “It’s not just the buying that’s important, it’s the watching.”

The European picture is unlikely to get more reassuring soon. The scale of Spain’s problem threatens the continent’s financial system, and Eurozone political leaders have struggled to contain the situation.

They originally announced a rescue package of roughly $125 billion in loans to the Spanish government to bolster the country’s banking sector. (Marshall Auerback, a market analyst and hedge fund manager, has said this would be equivalent to injecting $1.6 trillion into the U.S. banking system, far larger than the government’s 2008 bank bailout.)

In June, they went further, agreeing to make bailout funds available directly to Spanish banks, hoping to relieve financial pressure on Spain’s government.

Then this month the European Central Bank announced it was cutting its key interest rate from 1% to 0.75% in an effort to stimulate growth – a sign that fears of a slide back into recession across the continent are growing.

Many analysts remain skeptical whether these actions will be enough to stem the financial troubles that have moved like a virus from one European nation to another.

Others say the leading nations in the Eurozone are unlikely to let Spain fail. “France and Germany have incentives to make things work out,” says Sias, “because a lot of that debt is held by French and German banks.”

One thing seems certain: The Eurozone’s struggle is far from over, and American savers are going to have to get used to reacting calmly and deliberately to unsettling news from across the Atlantic.