Eurozone stocks and the related exchange traded funds haven't been all that bad this year. The SPDR EURO STOXX 50 ETF FEZ, for example, is up 12.26%. That sounds pretty good until acknowledging FEZ is trailing the S&P 500 by about 500 basis points.
FEZ tracks the EURO STOXX 50 Index and as its name implies, the fund holds just 50 stocks. While that lineup is concentrated, the fund is still a notable gauge of Eurozone equity markets because it devotes nearly two-thirds of its weight to Germany and France, the region's two largest economies.
Germany is perilously close to a recession and France may not be far behind, traits explaining some of the lethargy encountered by FEZ this year.
Why It's Important
To the credit of the European Central Bank, the bank has been proactive in using monetary policy to boost the region's sagging economies. The ECB has long been a fan of negative interest rates, but the effectiveness of that monetary stimulus is up for debate.
With Christine Lagarde poised to succeed Mario Draghi at the helm of the ECB on Nov. 1, fiscal stimulus could be the next trick up the ECB's sleeve, though some market observers don't see that as a winning bet.
“It’s not the policies themselves which fail. QE has been at least somewhat successful in the US and in Japan where negative rates have also helped to stimulate lending,” said State Street in a recent note. “Why haven’t they worked the same way in Europe? The eurozone’s wonky structure, where monetary policy is set unilaterally by the ECB, yet each individual nation state independently determines their fiscal policy, is stifling growth.”
In other words, structure matters and the structure of the European Union makes it difficult for fiscal and monetary stimulus to prop up the entire region.
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Negative interests rates are a drag on FEZ because the ETF allocates almost 17% of its weight to financial services stocks, its largest sector weight. Pressure on bank stocks in the Eurozone may be the only universal result of the ECB's easy monetary policy, indicating fiscal stimulus may prove no more effective.
“If a meaningful fiscal alignment takes place in the eurozone, the moribund economy could be revived, but the political risks are high given how long the problem has been ignored,” said State Street. “Now, with populism at the gates following a lost decade of growth politicians might just come around — if Lagarde can get them there.”
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