Europe Headed for Recession as Bailouts Falter, FX Concept's Taylor Says

Europe will sink into recession next year as bailout packages fail to solve the region’s sovereign debt crisis, according to the manager of the world’s largest foreign exchange hedge fund.

“We have a lot of time to go” before the situation in Europe is resolved, said John Taylor of FX Concepts LLC, speaking at the Hedge Funds New York Conference hosted by Bloomberg Link. “That means the market is going to be twitching because that’s a heck of a lot of GDP,” he said, referring to gross domestic product.

Ireland became the second euro country to seek a rescue last month as the cost of saving its banks threatened a rerun of the Greek debt crisis that destabilized the currency. European Central Bank President Jean-Claude Trichet signaled today that policy makers will delay their withdrawal of stimulus measures and said record-low interest rates are “appropriate.”

During a panel discussion at the conference, Taylor also predicted a “smaller euro,” with some weaker countries spun off. Eventually, economically stronger members “have to say ‘enough, you guys, get out of the euro,’” he said.

The ECB today left unchanged its forecast for economic growth next year at about 1.4 percent, while raising its estimate for inflation to about 1.8 percent from 1.7 percent. Releasing its 2012 outlook for the first time, it predicted growth of 1.7 percent.

Photographer: Jin Lee/Bloomberg

John Taylor, chief executive officer and chief investment officer of FX Concepts, speaks during the Bloomberg Link Hedge Funds 2010 conference at the Guggenheim Museum in New York. Close

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Photographer: Jin Lee/Bloomberg

John Taylor, chief executive officer and chief investment officer of FX Concepts, speaks during the Bloomberg Link Hedge Funds 2010 conference at the Guggenheim Museum in New York.

The dollar depreciated 0.5 percent to $1.3199 per euro at 1:16 p.m. in New York, from $1.3139 yesterday.

‘Too Big’

Ireland’s banking system “simply became too big” for the country to handle alone, Finance Minister Brian Lenihan said in a speech yesterday. Ireland’s banks will receive as much as 35 billion euros of additional capital in an International Monetary Fund and European Union bailout, after deposits fled and as lenders remain locked out of credit markets.

“We’re dealing with fundamental solvency issues, which are vastly exacerbated by the fact that you have a single currency,” said Dean Curnutt, chief executive officer of New York-based Macro Risk Advisors LLC, who appeared on the same panel. “We learned earlier this year there are vast spillover effects. I don’t think you can argue Europe is a contained animal.”

The Markit CDX North America Investment Grade Index, a gauge of corporate credit risk in the U.S., climbed 9.6 basis points in seven days through Nov. 30, and that same day the benchmark index for U.S. stock options rose to a two-month high amid concern that European governments won’t contain the region’s debt crisis.

Spending Versus Saving

The VIX, as the Chicago Board Options Exchange Volatility Index is known, has rebounded 18 percent since falling to a six- month low Nov. 19. The index measures the cost of using options as insurance against declines in the Standard & Poor’s 500 Index, which has risen 0.5 percent during the same period.

“The U.S. is trying to spend its way out of trouble, and you’ve got Europe that’s trying to save its way out of trouble,” said Paul Britton, chief executive officer of New York-based Capstone Holdings Group LLC. “There are two opposing camps, and someone’s going to be wrong.”

Investors use options to guard against fluctuations in the price of securities they own, speculate on share-price moves or bet that volatility, or stock swings, will rise or fall. Calls give the right to buy a security for a certain amount, the strike price, by a set date. Puts convey the right to sell.

Credit swaps pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt. A basis point equals $1,000 annually on a contract protecting $10 million of debt.

To contact the reporter on this story: Mary Childs in New York at mchilds5@bloomberg.net Jeff Kearns in New York at jkearns3@bloomberg.net.

To contact the editor responsible for this story: Nick Baker at nbaker7@bloomberg.net.

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