Greece’s sovereign debt crisis continues to roil global equity markets, and many fear the contagion could spread to the peripheral EU nations of Italy, Portugal and Spain. European banks hold approximately $2 trillion worth of sovereign bonds from these fiscally troubled countries, and US banks are indirectly exposed to about $200 billion worth of European debt through credit default swaps and interbank lending. If the debt crisis strikes hard, the financial reckoning could stretch far beyond the eurozone. We recently spoke with Kevin Mahn, chief investment officer of Hennion & Walsh, to discover what US investors can do to shield themselves from the turmoil in Europe.

Where does the Greek crisis stand?

Despite the latest developments, the story hasn’t changed over the last six months. A Greek default is inevitable, but policymakers are kicking the can down the road without any thought for what caused the crisis or how Greece will repay its debt.

The biggest fear is that the contagion will spread to other PIIGS (Portugal, Ireland, Italy, Greece and Spain) countries and freeze credit markets. Ratings agency Moody’s has warned that it may downgrade Italy’s sovereign debt, and the latest data indicates that European banks hold almost $2 trillion in bonds issued by the PIIGS nations.

This fallout is a continuation of the debt crisis that started in 2008 and continues to work through developed European markets. Fortunately, US banks don’t have much direct exposure to those countries. But credit is the oil that greases the global economic machine. If that oil dries up in any part of the world, it can negatively affect the global economy.

Why is a Greek default inevitable?

Greece’s first bailout package in May was worth about EUR110 billion. But the country is already seeking an additional EUR100 billion just to meet its scheduled debt payments. But are these loans helping to address the underlying problems facing the Greek economy? What happens in two or three years if the Greek government can’t increase revenue and must rely on other European block countries for a bailout?

Prime Minister George Papandreou recently asked the Greek Parliament for a vote of confidence. The vote was basically political cover for the bailout, but what other choice did Greek policymakers have? Austerity measures will be slow to take effect, and if Greece doesn’t receive additional funds, the country will default on its debt. The long-term repercussions of such an outcome would be severe.

Unless Greece overhauls its economy, the European community will have to continue to put money into the country just so Greece can service its debt.

Austerity measures haven’t had the desired effect in Ireland. Why would Greece be any different?

Greece wouldn’t be any different from Ireland. Austerity measures would take a long time to have the intended effect and Greece’s balance sheet is far worse off than Ireland’s balance sheet. If austerity measures aren’t working in Ireland, there’s no reason they would work in Greece over the short- to intermediate-term. Should austerity measures be enacted? Absolutely. Everything should be on the table right now. But austerity isn’t the only solution for Greece.

Will countries such as Germany continue to bailout Greece?

That’s the million-dollar question, and it’s very hard to answer. It’s like asking how long China will continue to buy US Treasury bonds. German banks have significant exposure to Greek debt and to a certain extent, they will manage risk and mitigate their own potential losses. But eventually the Germans will ask themselves if they need to focus on other areas where they have debt exposure. I don’t know when Germany will reach that point—it could be this year or next year or maybe 2013—but it’s a very appropriate question to ask.

Many have speculated that this crisis could lead to a breakup of the EU. Is that a real possibility?

This speculation just reinforces the concerns that my colleagues and I had when the EU was forming the euro. Under a single currency, no country has complete control of its own monetary policy or economy. If one country experiences fiscal problems, it can’t take independent action and devalue its currency. Instead, other countries have to step in with a bailout. The current crisis has led many EU member countries to ask whether a single currency is good for their long-term economic health. Not only have EU member countries questioned whether Greece should remain part of the EU, they’ve begun to question the viability of the EU itself.

What would an EU break up mean for US investors?

It would take us back to the days of trading of the underlying countries, currencies and economies. As an investment manager, I’d much prefer trade single countries or currencies as opposed to a block trade of different countries and economies that don’t necessarily correlate to one another. I prefer granularity. A breakup of the euro into its constituent parts would also reinforce the strength, value and dominance of the US dollar.

Former US Federal Reserve chairman Alan Greenspan recently said that a Greek default could send the US into another recession. Do you think that’s possible?

A Greek default alone wouldn’t be enough to cause another recession in the US. But there could be significant problems if a default dries up credit markets, as was the case The global economy could spiral into recession if Greece defaults and banks hoard cash, stemming the flow of cash throughout the global economy. But the market has likely priced in that outcome already.

How much exposure do US banks have to the eurozone crisis?

In terms of ancillary risk, US lenders do have exposure to European banks, which in turn, have direct exposure to the underlying debt of the fiscally-troubled countries. It’s really a question of how you look at the numbers. US banks may not be extending loans to these problem countries, but they do have outstanding business with European banks. US banks have a very real indirect exposure to the eurozone crisis.

How can US investors protect themselves from a wave of European defaults?

Investors should make sure their portfolios are braced to withstand any potential market shocks from Europe. They should also reconsider their portfolio diversification strategy. We have trimmed our allocations to global developed markets and are looking to emerging or frontier markets for uncorrelated US equity exposure. We’ve also looked beyond international markets and sought to hedge against inflation with investments in agriculture, energy, metals and other commodities. We still like select small- and mid-cap US stocks which will benefit as the country slowly grows out of the current economic malaise.

What is your best piece of investors?

Expect a long and drawn-out global economic recovery. Don’t underestimate the headwinds facing US consumers. Build a portfolio that will lead you to pockets of risk-adjusted growth opportunities beyond traditional US blue chips and international large caps. Weather the economic recovery by seeking investments in areas such as real estate investment trusts, commodities, smaller-cap US companies and fixed-income instruments.