Market Overview

Maybe Some Relief For The Spain ETF

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Maybe Some Relief For The Spain ETF

The iShares MSCI Spain Capped ETF (NYSE: EWP), the largest exchange-traded fund tracking stocks in the eurozone's fourth-largest economy, is down 8.2 percent this year.

Financials

As is the case with other members of the PIIGS group, there have been lingering concerns about the health of Spanish banks. However, there are signs banks in the eurozone's fourth largest economy are regaining some health. The health of Spanish banks is of particular importance to EWP because the Spain ETF, as is the case with so many single-country funds, devotes a significant percentage of its weight to financial services names.

In the case of EWP, that weight is 34.4 percent, or nearly 1,600 basis points more than the ETF allocates to its second-largest sector weight, utilities. Some of the big banks in EWP's lineup are cutting costs in an effort to bolster earnings.

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Big Spanish banks “have announced plans to close branches and reduce staff levels, in some cases by 15 percent or more. ECB figures show that the number of inhabitants per local branch in Spain, at around 1,200, is one of the lowest among eurozone countries, suggesting that overcapacity is still high and cost-cutting is long overdue,” according to Fitch Ratings.

Banks And Dividends

Increased profits by way of cost-cutting will also help big Spanish further fortify dividends, which were punished during the darkest days of the European financial crisis. EWP's trailing 12-month is nearly 3.9 percent, which is tempting at a time of negative interest rates in the eurozone. However, some investors are apt to want to see Spanish banks in position to consistently increase payouts going forward.

During the worst days of the eurozone crisis, Spanish banks offered investors scrip dividends as a means of preserving cash. As Markit noted, scrip dividends do not really help or harm investors, but they do help the banks using that option because it helps avoid dividend cuts, a message that is rarely warmly received by financial markets.

"Spanish banks still face a considerable challenge to reduce their high levels of problem assets, made up of non-performing loans and foreclosed assets. The problem assets to total loans and foreclosed assets ratio still compares unfavourably with international standards and ranges from 5 percent to more than 20 percent across our portfolio of rated banks at end-2015.

"The stock of problem assets continues to weigh on the sector's ability to boost profits but we expect loan impairment charges across the sector to continue reducing to more normalised levels as economic growth increases and employment figures improve,” added Fitch.

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