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Current Assessment on Puerto Rico

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Puerto Rico’s debt problems have regained some prominence in the news this past week, as the Commonwealth’s Governor Padilla asserted in a recent speech that they are unable to pay their debt load and that restructuring is required. In addition to the Governor’s comments, on June 29, S&P lowered its credit rating to CCC- from CCC+. While Puerto Rico’s liquidity profile has deteriorated, they made their short term note payment on June 30 and utility payment on July 1. A Puerto Rico restructuring on all outstanding bonds would affect approximately $73.7 Billion in debt.

Some form of default appears inevitable in the near future, and concerns have increased as to whether effects will spill over into other areas of the market.

We believe that a default would add to recent market volatility, but that it, as an isolated event, would not lead to a domino effect with far reaching ramifications. The effects are most visible in the municipal bond space, but are expected to be temporary. We are not alone in our view. JP Morgan opined that we do not expect meaningful negative contagion from Puerto Rico to the broader market.

That Puerto Rico borrowed too much and needs help outlining a plan for repayment is well known to investors by now. In fact, some commentators have referred to the situation as the market’s slowest train wreck. Many of the risks are known and are not new, however reaching a solution to the problem has been complicated by the inaccessibility of Chapter 9 restructuring, since Puerto Rico is a Commonwealth, not a state. Modifications to Chapter 9 legislation are currently being discussed in Congress, however little progress can even be expected until after the Independence Day holiday.

There are some similarities to the Greek situation, in that Puerto Rico took advantage of artificially low financing costs and borrowed far more than their economic growth could sustain. Structural economic reforms have been recommended and largely ignored by their government. One large difference, however, is that, as a territory of the United States, it is believed that some form of negotiated or legislated solution is a higher probability outcome, thereby limiting contagion into other market sectors. Any default has unforeseen effects, but some form of agreement appears more likely so it is expected to be handled in a more orderly, managed manner.

The TPFG investment team is monitoring the situation closely. Puerto Rican bond exposure is very limited in our portfolios (less than 1%), so a default should have minimal direct impact our portfolios.

Disclosure: This material is for information purposes only and is not intended to be a solicitation, offering, or recommendation of any security or investment product. Market data contained in this article has been obtained from sources believed to be reliable, but is not guaranteed. Commentary in this article contains the current opinion of the author(s) as of the date above, which are subject to change without notice. No part of this article may be reproduced in any form, or referred to in any other publication, without the express written consent of The Pacific Financial Group, Inc.

Current Assessment on Greece

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The Greek situation has escalated over the past couple weeks, causing investors some concerns. We want to briefly address those concerns and provide our insight into the situation.

First, how’d we get here? Greece has been in the headlines for a number of years as it verges on the brink of collapse. After the 2009 recession, a number of European countries took the difficult, yet necessary, steps toward austerity which included trimming government spending, reducing bloated pension entitlements, and reforming many areas of the public sector. Greece has made little progress in those areas and, since 2010, their economy has contracted by 26%.

Fast forward to 2015 and many of the countries that pared back spending are beginning to show signs of sustained growth. Meanwhile, Greece is once again on the brink of collapse. In January, austerity-weary voters elected a government that promised not to make further changes that, sadly, still need to be made. Those include: cutting retirement benefits, trimming public spending, and decreasing the size of the public sector. Five months later, Greece has now defaulted on a loan to the International Monetary Fund and there is a high probability they will default on a €3.5 billion payment to the European Central Bank due July 20th.

Updates surrounding the controversy are dominating the headlines and for many investors it can be confusing and alarming. As recently as this morning, new headlines suggest Greece is now willing to make further spending cuts however they are not enough based on European leaders’ initial requirements. For now, we are in a wait and see mode with the understanding that things can change quickly. Nothing is set in stone and even rules that are technically written down in treaties can be overruled and modified in times of crisis.

We want to assure you that the entire Investment Team of TPFG is closely following this situation and meeting daily to discuss updates and implications for our investments. It is difficult to say how this crisis will ultimately resolve itself however, we can say that Greece has been making headlines for over 5 years with the possibility of default. During that time period, many investors reduced (or completely eliminated) exposure to Greece. In fact, TPFG currently has no direct exposure to Greek stocks. Additionally, Greece represents only 2% of euro area GDP and would not be capable of providing a major catalyst for a market crash. The fear of contagion is limited as well. Initially there were fears that European officials would back down and give Greece some sort of special deal which would in turn lead to other countries (such as Portugal, Spain, or Italy) demanding better terms for their loans as well. Instead, European officials have maintained a hardline stance with Greece, suggesting they are in no mood to make concessions on loans to Greece (or anyone else for that matter).

Again, TPFG is closely monitoring this situation as it unfolds. However, we do believe any adverse market impacts will be limited and short term in nature.

Disclosure: This material is for information purposes only and is not intended to be a solicitation, offering, or recommendation of any security or investment product. Market data contained in this article has been obtained from sources believed to be reliable, but is not guaranteed. Commentary in this article contains the current opinion of the author(s) as of the date above, which are subject to change without notice. No part of this article may be reproduced in any form, or referred to in any other publication, without the express written consent of The Pacific Financial Group, Inc.

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