EUROPE - Asset managers largely agree that Greece's exit from the euro-zone would carry a high risk of contagion to other peripheral countries, but they disagree on the global economy's ability to recover from such an event.

The political situation in the country - with a current lack of government after elections in April - has increased uncertainty over its future within the euro-zone, despite the fact polls show 78% of the population want to keep the currency. 

As Rupert Caldecott, CIO of the global asset allocation team at Dalton Strategic Partnership, pointed out, Greece's 2011 GDP, which stands at $312bn (€245.3bn), is less than the market capitalisation of Apple ($320bn).

"But the potential impact of a full default on the 165% of GDP that its debt represents, and the possible withdrawal of deposits by its 10.8m citizens from their domestic banks, makes the potential impact across the European banking system and economies unknown," he said.

This uncertainty, as well as the risk of contagion, has led the spread between Spanish and German government bonds to jump to almost 500 basis points in the second quarter, while the spread between Italian and German bunds has also gone up.

For Ted Scott, director of UK strategy at F&C, the indirect contagion is the biggest risk for the euro-zone, particularly in relation to the bond markets of other peripheral countries.

"With confidence in bond markets lost, it could quickly spread to the real economy," he said.

"The cost of capital to banks and companies would rise, and there would be a flight of capital from other countries that are viewed as being vulnerable to leaving the euro-zone, especially Portugal."

He added that the UK, despite the fact its banks had little direct trade exposure with Greece, was also likely to suffer due to its trade and financial links with European banks, especially the French, which have much larger holdings of Greek bonds.

Chris Iggo, CIO at AXA Investment Managers, said that, from the bond market point of view, these issues were overriding everything.

"US Treasury, German Bund, Japanese and UK government bond yields are hitting new all-time lows, which CDS indices have widened," he said.

"Valuations are extreme, but it will require some event to reverse recent trends.

"On the macro front, the already fragile outlook for weak global growth with significant regional divergences is at risk from continued investor, corporate and consumer reluctance to move away from very cautious behaviour."

According to Iggo, Germany can do a lot to support growth in the region, but it cannot carry Europe by itself, and with concerns about the strength of the Chinese and US economies, German growth is also at risk until confidence improves.

However, some other asset managers expressed more optimistic views.

Tom Higgins, global macroeconomic strategist at Standish, said: "Should Greece exit, there would inevitably be significant pressure on, and market volatility surrounding, those other troubled peripheral euro-zone countries.

"However, we would expect concerted support from the region's authorities to ring-fence Portugal, Ireland, Spain and Italy from the dangers of contagion, along with new policies designed to boost growth in these countries."

Higgins added that the global economy was probably better positioned to weather a Greek exit than it had been in either of the last two years, as foreign banks had reduced exposure to Greek government debt from roughly $64bn in September 2010 to around $23bn at the end of last year.

"At the same time, the European Central Bank's Long-Term Refinancing Operation (LTRO) has provided banks in Spain and Italy with enough liquidity to get through any temporary drying up of funding from the capital markets," he said.

Nick Gartside, international CIO for fixed income at JP Morgan Asset Management, said: "Ultimately, a certainty is more volatility as both the concept and the strike level of a Draghi put are tested and as politicians re-group. 

"Risk assets could well continue to sell off as equities catch up with the moves in currencies and bonds. 

"This should create opportunity, and we are eager to deploy cash piles into well-researched credit and emerging market bonds at an opportune time."

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