Evercore Pan Asset

The UK and Euroland were making heavy weather of recovery before the Icelandic volcano erupted. Now they have another problem to contend with.

In the banking crisis the UK’s relationship with Iceland was strained by their differing responses to the alleged weaknesses of the Icelandic banks. The UK’s intervention was seen as necessary by some, and unhelpful by others. It was a nasty chapter in the story of rolling bank collapses.

This week’s news of the continuing eruption of an Icelandic volcano has also prompted a very strong UK and European regulatory response. The airspace regulators believe the dust cloud is very dangerous to all jets, and has grounded all the UK’s commercial jet aviation. Most of the rest of the EU has done the same. The results will be bad for the economies.

The main losers will be the airlines. Under EU rules the European airlines have to pay for hotel and meal costs all the time their stranded passengers cannot fly. Each day brings thousands of cancellations, which means large losses of revenue. Meanwhile staff wages and plane leases still have to be paid. We should expect bad figures from airlines generally, and maybe bankruptcies or further state bail outs.

There will also be losses for many other companies. Most airfreight is suspended. Companies that rely on planes to bring in crucial commodities and components, and to export products, will lose business and be unable to satisfy past orders on time. Global companies based in Europe will find it difficult to keep sales forces travelling and winning the business they need to pull out of recession.

Whilst holiday businesses will also suffer from the inability of new visitors to come, there will be some offsets from stranded people having to dig deeper to pay for accommodation whilst they await new travel plans.

The uncertainty will not be good for markets. We are told by the Met Office there is no sign of the wind changing this week, whilst the volcano seems well set to erupt more. If it carries on like this, the cash flow and other problems intensify and there will be more speculation about the impact of all this on output and on state finances as well as on company finances.

It is one more topical and we hope transitory reason to be cautious about European investment. It reinforces our preference for Asia and the Americas. The last thing many EU economies and governments needed was a seizure of a major industry and the closure of major transport links. The next few days could see markets start to look at the impact on the more vulnerable profits and balance sheets of the corporate sector exposed to air travel, and on the slow reaction of governments who may end up having to spend more money on alternative travel and airline bail outs.