Post Downgrade, Say Oui to France?
Barring another major news event, this week's most important eurozone headlines crossed the wires on Monday when Moody's Investors Service announced France is no longer worthy of the prestigious AAA credit rating. The ratings agency took the eurozone's second-largest economy down one notch to Aa1 with a negative outlook, citing a contracting economy and murky fiscal condition.
Surprisingly, French equities are not being sent to the slaughterhouse today. The iShares MSCI France Index Fund (NYSE: EWQ) is higher by nearly two-thirds of a percent in midday trading. One reason French stocks are holding up despite the downgrade could be valuation.
As iShares Global Chief Investment Strategist Russ Koesterich noted on Monday, France "is offering a 31% discount to the MSCI World Index and a 15 percent discount to Germany".
Of course, there are risks to consider, including the vulnerability of French banks and France's struggles with entitlement and pension spending. With those risks in mind, investors that want some exposure to France without making an "all in" bet as would be required with EWQ should consider the following ETFs.
WisdomTree Europe Hedged Equity Fund (NYSE: HEDJ) The WisdomTree Europe Hedged Equity Fund is not the ETF with the next largest France exposure after EWQ, but HEDJ does allocate almost 24.3 percent of its weight to the country. As a France play, HEDJ merits consideration because of the fund's restructuring that took place earlier this year.
The new version of HEDJ includes a weight of just 7.9 percent to financials compared to 22 percent in the old version. Perhaps even more importantly is the fact that the new HEDJ now focuses exclusively on Eurzone dividend-paying firms that derive most of their revenue outside of that region. What the new HEDJ boils down is a hedge against a weakening euro with a dividend kicker, two traits that make HEDJ more appealing than a traditional Europe-focused ETF.
WisdomTree International Dividend ex-Financials Fund (NYSE: DOO) As it is HEDJ, France is the second-largest country weight in the WisdomTree International Dividend ex-Financials Fund, this time with an allocation of 14.2 percent. DOO's name gives away why this ETF as a solid idea for France exposure. Assuming that French financials remain embattled, and there is no indication that situation will dramatically change in the near-term, an ETF that includes none of those names makes sense.
What investors sacrifice with DOO is eurozone equity rally lead by bank stocks. In that scenario, DOO will almost certainly lag those ETFs with heavy allocations to the financial services sector. A 30-day SEC yield of 4.73 percent makes taking that chance tolerable.
DOO is worth a look for another reason. Since the ETF focuses on non-U.S. stocks, it could prove to be a winner if the fiscal cliff comes to pass.
SPDR EURO STOXX 50 ETF (NYSE: FEZ) After EWQ, the SPDR EURO STOXX 50 ETF is the ETF with next largest allocation to France at 36.2 percent. Investors should also note Germany accounts for 32 percent of this ETF's weight, so for better or worse, FEZ is not the most diverse eurozone play. Two French stocks – Total (NYSE: TOT) and Sanofi (NYSE: SNY) – are FEZ's top-two holdings combing for 11 percent of the ETF's weight.
The rub here is that FEZ devotes 24.5 percent of its weight to bank stocks, which is more than double the allocation any other sector receives in the ETF. That means this ETF can be volatile and the statistics support that assertion. FEZ has a beta of 1.41 against the S&P 500 and annualized volatility of almost 27.4 percent, according to State Street data.
Rather than making one concentrated bet on FEZ, investors should consider paring this ETF with HEDJ. In that scenario, exposure to bank stocks is taken care of as is a hedge on the euro.
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