Market Overview

Euro Zone Economies Shrink Unexpectedly in February

The euro zone unexpectedly shrank in February, adding to fears that Europe might be about to fall back in to recession. The latest survey results from Markit Economics' purchasing managers' index (PMI) showed that the index fell back to 49.7 in February, down from 50.4 in January. The results are troubling because anything less than 50 indicates economic contraction.

Economists were encouraged by January's numbers because the January results signaled that the euro zone might be able to avoid a recession. A survey of economists by Bloomberg News showed an average PMI forecast of 50.5, which would have indicated modest economic growth.

However, the latest news for February that the euro zone economies as a group are in decline will be a blow to hopes that Europe might soon emerge from the financial crisis caused by slowing economies and sovereign debt troubles.

Results among euro zone members varied but the trend seems to be that the two biggest economies in the euro zone, Germany and France, are doing better than the smaller economies. Not surprisingly, the countries that have been hardest hit by the euro zone's financial crisis are the biggest contributor to the euro zone's overall poor economic performance.

Countries like Greece, Spain and Portugal that are struggling to deal with sovereign debt problems have been forced to implement unpopular austerity measures, which include spending cuts and tax increases. The austerity measures are a drag on economic growth and threaten to pull the entire euro zone into recession. The worsening economic environment in Europe was one of the factors cited by Moody's Investor Service last week when the credit rating agency put over 100 euro zone banks on notice that they could soon be downgraded.

Today's negative purchasing managers' index data from Europe will be especially bad news for China. China's PMI data for February showed that China's economy is also slowing down. Falling demand from Europe is to blame for much of the weakness in the Chinese economy and is one of the main risks to China's economic performance. Today's euro zone PMI data shows that the group of seventeen countries is on the verge of falling into recession, which would be a major blow to China's export driven economy.

Just last month the International Monetary Fund (IMF) warned China that the country must increase domestic demand because a euro zone recession could cut China's economic growth rate in half. With today's news that the euro zone is shrinking again, the outlook for both Europe and China has worsened significantly.


ACTION ITEMS:

Bullish:
Traders who believe that the euro zone will return to growth soon might want to consider the following trades:
  • European banking stocks like Credit Suisse Group (NYSE: CS), Banco Santander (NYSE: STD) and HSBC (NYSE: HBC) could do particularly well if next month's data shows that the euro zone has returned to growth and avoided a recession.
  • The CurrencyShares Euro Trust (NYSE: FXE) and the iShares S&P Europe 350 Index (NYSE: IEV) ETFs could also both climb higher in such a scenario.
Bearish:
Traders who believe that the results of today's PMI survey are the latest sign that Europe has too much going against it may consider alternative positions:
  • Shorting individual European banking stocks like the ones mentioned before or shorting the euro with the ProShares UltraShort Euro (NYSE: EUO) are two ways to profit if the euro zone falls into recession. Such an event would put further pressure on the euro currency and on the ability of Europe's banks to be profitable.
Neither Benzinga nor its staff recommend that you buy, sell, or hold any security. We do not offer investment advice, personalized or otherwise. Benzinga recommends that you conduct your own due diligence and consult a certified financial professional for personalized advice about your financial situation.

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