Do Spain’s Red Flags Scream Caution?

As Greece comes to the “end game,” Spain is next up on the firing line.

Greece continues moving towards the climax of its ongoing “Greek tragedy,” with its pivotal national elections now scheduled for June 17th in what’s being called a referendum on Greece’s future as a member of the European common currency and the European Union.

The situation continues sending shock waves through the world’s financial markets as apparently preparations are now being made for a Greek exit from the zone.  Greece is small potatoes on the world scene but major institutions like the European Central bank and major European banks are on the hook for the country’s debt should it default and leave the zone.

Investing Insights to Explore: ETF Trading Signals>>

But the bigger problem with Greece is Spain.

If Greece can leave the Euro Zone or get some kind of special deal or debt relief or reduction in the recently agreed to austerity programs, then that creates the “moral hazard” that other troubled countries will want the same good deal.  Very likely, the first country in line for that newly available benefit would be Spain and this creates a major headache for Europe and the world financial system.  Spain is the fifth largest economy in Europe and the 12th largest in the world and so we’re talking about multiples of bailout money needed to pull Spain back from the brink.

Just this week, Catalonia, one of the country’s major independent regions, said it might need help from the federal government to help service its crushing debt load.  Suddenly this week, Catalonia and the other regions discovered that they’ll need more than 3o billion Eurodollars to cover their debts this year, up from the previously planned 8 billion, and so the situation has instantly become more complicated.  This latest “discovery” of new obligations comes on top of Bankia, the recently nationalized bank, saying that it needs substantially more assistance, soe say as much as 6 billion more Eurodollars, than previously  thought.

So suddenly Spain becomes an even greater problem and this is likely to balloon even further depending upon the outcome in Greece.

Major financial markets are not reacting well to the ongoing uncertainty as the Eurodollar (NYSEARCA:FXE) now trades at $125.13, a two year low, and European markets have been hammered hard in recent weeks.

iShares MSCI Spain ETF (NYSEARCA:EWP) is down 25% just since the middle of March, while the CurrencyShares EuroTrust (NYSEARCA:FXE) has declined 6% since early April.  Major European indexes have been hit hard, as well, with Vanguard Europe Index (NYSEARCA:VGK) off 13% since the 1st of April and iShares Germany Index (NYSEARCA:EWG) down 15% since April 1st.

Beyond the equities markets, the bond markets are also nervous about Spain’s future with the Spanish 10 year yield now at approximately 6.5%, perilously close to the widely viewed “unsustainable” level of 7% and U.S. Treasury yields at or near record lows.

So what should investors do about all this?

Clearly global risk is high and there appear to be opportunities on the “short” side of the market in Europe or in “safe” assets in the United States which is widely viewed still as the last safe haven.

Short Europe could include ProShares Short MSCI Europe (NYSEARCA:EFZ) an inverse Europe ETF which is up 11% since May 1st or ProShares Ultra Short Euro (NYSEARCA:EUO) up 11% over the last two weeks.

“Safe” assets in the  United States could include U.S. Treasuries (NYSEARCA:TLT) up 5% since the first of May or the U.S. Dollar (NYSEARCA:UUP) up more than 4% since May 1st.

Bottom line:  Europe continues to present significant risk to global financial markets as Greece and Spain lurch towards potential crisis and calamity.  Risk is always coupled with reward and ETFs offer opportunity to seek profits regardless of what transpires over the coming weeks.

Disclosure: John’s Nyaradi’s ETF Premium holds a position in (NYSE:TLT) iShares 20+ Year Treasury Bond ETF.

John Nyaradi is the author of The ETF Investing Premium Newsletter.