Why Europe Matters to Your Portfolio

With all the controversy and difficulties that Europe is going through, you may be glad to be on this side of the Atlantic. However, if you think that your portfolio is completely insulated from what's going on in Greece and elsewhere, think again. Even if you don't own a single foreign stock, you could feel the impact of a European meltdown for months or years to come.

Is it the end?
With memories of 2008's series of events that led to the worst of the financial crisis, many see parallels between what happened in the U.S. two years ago and what is going on in Europe right now. Some are comparing the Greek sovereign debt crisis to Lehman Brothers and the September 2008 decision to allow the investment bank to fail.

Certainly, the European financial markets are reacting violently to the ongoing trouble. The euro has dropped precipitously against the U.S. dollar, with the currency hitting new 12-month lows after the proposed $145 billion loan package from the IMF and other European governments fell short of what investors had hoped to see. Stock markets have followed suit, with London's FTSE down nearly 6.5% and France's CAC-40 off over 8% in the past two weeks.

For some stocks, earnings news is only contributing to the downturn. Steelmaker ArcelorMittal (NYSE: MT  ) forecast better results for its second quarter, but first-quarter earnings fell short of expectations. Nokia (NYSE: NOK  ) even saw improved revenue and profit in the first quarter, but it wasn't enough to keep shareholders happy. The two companies have seen shares fall 16% and 22% respectively since April 20.

The U.S. perspective
For U.S. investors in European stocks, the continent's woes have been especially painful. Not only are European markets falling, but the stronger dollar is making euro-denominated assets worth even less, causing even greater losses.

Of course, if you don't own any European stocks, you might think you're safe. But if the impact of the Greek situation spread across the continent -- something you've already started to see in countries like Spain and Portugal -- then the entire European economy could enter a new recession.

That wouldn't just be bad news for European business. Many U.S. companies do a surprisingly large amount of business in Europe. Texas-based pumpmaker Flowserve (NYSE: FLS  ) gets nearly half of its revenue from Europe. With gaming's popularity around the world, Electronic Arts (Nasdaq: ERTS  ) also has substantial European exposure, with 38% of its sales coming from the region. Even big multinationals would take a hit if Europe slumped; Kraft Foods (NYSE: KFT  ) and Johnson & Johnson (NYSE: JNJ  ) are both in industries that tend to be resistant to economic slowdowns, but both companies get more than a quarter of their business from Europe.

Moreover, the ripples from a European crisis won't stop there. Even companies that don't sell their goods and services in Europe often depend on overseas suppliers for the materials they need to do business. If European turmoil gets worse, then potential disruptions could start to affect purely domestic companies as well.

How to handle it
As with any other difficult situation, the first thing you should do is to assess your own exposure to the risks involved. If you have a typical allocation to foreign stocks, their drop won't necessarily have a huge impact on your net worth. The concern, though, is whether sovereign debt concerns will spread beyond Greece not only to other European countries but also to other big world economies like the U.S. and Japan. After all, although the situations in other countries aren't as dire or immediate as what Greece is facing, most of the developed world has seen greatly increased debt levels in recent years.

The other thing to do is to make sure your portfolio is diversified. If you haven't rebalanced your portfolio during the big run-up since March 2009, it's a good time to make sure you don't have too much of your money invested in risky assets. By positioning yourself for whatever may come, you'll make sure that you don't repeat the terrible experiences from the U.S. market meltdown.

Can you actually make money from Greece's woes? Tim Hanson thinks he's found the greatest trade ever.

Fool contributor Dan Caplinger would love to see European travel get cheaper -- but no volcanic ash, please. He doesn't own shares of the companies mentioned in this article. Nokia is a Motley Fool Inside Value recommendation. Electronic Arts is a Motley Fool Stock Advisor pick. Motley Fool Options has recommended buying calls on Johnson & Johnson, which is a Motley Fool Income Investor recommendation. The Fool owns shares of Flowserve. Try any of our Foolish newsletters today, free for 30 days. The Fool's disclosure policy travels well everywhere you want to go.


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