Investing: Speculate on Euro? Not a Great Idea

May 20, 2012 — -- In ancient Greece, the gods could smite you in any number of ways. Zeus could hit you with a thunderbolt. Poseidon could cause an earthquake. Proboscis could make your nose fall off.

Currently, the euro is smiting Greece — more properly, the rules for remaining in Euroland are smiting the country, and there's a strong possibility that Greece might exit the euro. The big question: How will that affect Europe and your portfolio, and should you do anything now to shield yourself?

The short answer: The mutual fund industry has provided you with several ways to play the euro. Nearly all of them are stupid.

Let's start with the Greek situation.

To reduce its massive debt, Greece has had to agree to austerity measures, raising taxes and slashing spending.

But Greece is in its fifth year of recession, and austerity measures have simply deepened the misery. Greece's economic problems became political ones: Earlier this month, Greece held parliamentary elections and was unable to form a government. Should the most popular anti-austerity candidates win the election, a Greek exit from the euro is quite possible.

Already, people are withdrawing money from Greek banks, in fear that the euro would be replaced by a weaker drachma. An estimated 700 million euros fled the Greek banking system on Monday alone. Fitch, the ratings agency, said Thursday that it would place all Eurozone countries on credit watch if the company judges a Greek euro exit likely.

In the worst case, Greece defaults on its debt and the bank runs spread to Italy and Spain. China, one of Europe's largest trading partners, slows further, depressing demand for commodities. "Stock prices fall, commodity prices fall, and recession causes further political crises in Europe," says George Feiger, CEO of Contango Capital Advisors.

Unfortunately, this would happen at nearly the same time the U.S. hits the fiscal cliff: Unless Congress acts, taxes will rise and government spending will fall at the end of the year. "This is more a matter of game theory than rather than economics," Feiger says. "These games are very dangerous."

Already, the euro has sagged to $1.27 Thursday, down from $1.60 in April 2008. "There's a fair amount of negativity priced in," says Jay Bryson, global economist with Wells Fargo Securities.

Is there a way to play the decline of the euro? Well, sure, but that doesn't mean you should.

•Currency funds. The mutual fund industry has given you many ways to play the currency market. The Rydex Strengthening Dollar 2x Strategy fund (ticker: RYSBX), for example, is the fund for raging euro bears. It's designed to move twice as high or low on a daily basis as the U.S. dollar index. The fund has gained 7.9% the past 12 months.

Funds that are supercharged like this have disastrous results on the way down. Consider its twin, the Rydex Weakening Dollar 2x Strategy Fund (RYWBX). The fund has lost 13.5% the past 12 months.

A somewhat milder, but still risky, play would be to invest in the currency of a country that's not in the eurozone and reasonably stable. CurrencyShares offers exchange-traded funds that invest in the Canadian dollar (FXC) or the Australian dollar (FXA). Exchange-traded funds can be bought and sold any time of the day.

Both currencies have done well vs. the dollar. But currency markets move fast, and individual investors tend to lose early and often in the Forex markets. Unless you have nerves of steel — and lots of time to monitor your investment — you should step aside.

•U.S. Treasury funds. When investors flee the euro, they typically buy dollars. That's one reason the yield on the bellwether 10-year Treasury note hit 1.69% on Thursday.

What could possibly go wrong? Bond prices fall when interest rates rise — and at 1.69% for a 10-year T-note, the odds are much better that rates will rise than fall.

Your best bet, at this point, is to be as widely diversified as possible, and avoid European stocks and currencies. If the crisis is solved — somehow — you'll still have time to return to Europe. In the meantime, avoid Europe like Hades.

John Waggoner is a personal finance columnist for USA TODAY. His Investing column appears Fridays. See an index of Waggoner's columns. His book, Bailout: What the Rescue of Bear Stearns and the Credit Crisis Mean for Your Investments, is available through John Wiley & Sons. John's e-mail is jwaggoner@usatoday.com. On Twitter: www.twitter.com/johnwaggoner.