ETFs
5 reasons to bet on Eurozone ETFs now – May 16, 2024
Even as Wall Street approaches an all-time high, uncertainty about the timing of Fed rate cuts and overvaluations persists. At the same time, several foreign economies have recently shown improving trends.
Among those with strong potential for outperformance, the euro zone deserves to be mentioned. Several factors contribute to this improved outlook. First-quarter GDP figures beat expectations, indicating a stronger-than-expected start to the year.
Additionally, inflation is approaching the 2% target set by the European Central Bank, and the ECB itself is poised to initiate interest rate cuts, signaling supportive monetary policy. Let’s discuss the positive factors in detail.
ECB rate cuts almost certain
The latest minutes from the European Central Bank (ECB) suggest monetary policy likely in June. Although most members favor keeping rates steady for now, some had already pushed for a rate cut in April.
Minutes from the April meeting revealed that financial markets are bracing for a possible rate cut in June, provided that upcoming economic data aligns with current forecasts. ECB President Christine Lagarde also echoed the same positive sentiment, saying the eurozone economy is on the path to recovery.
Falling inflation and improving growth prospects for the Eurozone
The annual inflation rate in the euro area remained at 2.4% in April 2024, in line with market expectations, according to preliminary estimates. The core inflation rate, which excludes volatility in food and energy prices, fell to 2.7%, down from 2.9% in March.
Analysts in a recent Bloomberg poll have revised their forecasts for the euro zone economy, anticipating faster expansion in 2024 compared to previous projections. The latest consensus suggests a 0.7% increase in output for the 20-country monetary union, up from the 0.5% previously forecast. The upwardly revised forecast reflects more optimistic sentiment in the region.
Struggling German economy shows signs of improvement
In particular, Germany, the eurozone’s largest economy, is expected to see a GDP increase of 0.2%, up from the previous estimate of 0.1%. The German economy grew by 0.2% in the first quarter of 2024, above market expectations of a 0.1% rise and after a 0.5% contraction in the previous period. On an annual basis, the economy contracted by 0.2%, entering a technical recession for the first time since 2020-21, according to Trading Economy. Furthermore, positive revisions were also observed for France, Italy and Spain.
Improving the corporate earnings environment
A weaker euro and stronger PMIs should boost earnings revisions in Europe, by UBS, as cited on CNBC. “European profit margins (especially outside the financial sector) are much narrower than in the United States, and in the United States, 67% of the margin improvement comes from unsustainable factors (lower rates and lower taxes ), compared to only 3% in Europe,” say the strategists. wrote.
Cheaper rating
The S&P 500–fund based SPDR S&P 500 ETF Trust (TO SPY – Free report) jumped 26% over the past year while Vanguard FTSE Europe ETF (VGK – Free report) gained 9.4% and iShares MSCI Eurozone ETF (EZU – Free report) added 12.9%. The SPY fund has a P/E of 17.86X while VGK has a P/E of 13.00X. The EZU fund has a P/E of 13.23X. As monetary policy easing looms, a lower valuation will likely give Eurozone ETFs an advantage in the US market.
Additionally, UBS reported that the so-called equity risk premium (ERP) – or the excess return on an equity investment compared to risk-free alternatives – is much higher in Europe than in the UNITED STATES, as quoted on CNBC. UBS went on to highlight that ERP in Europe is 2.1 percentage points higher than in the United States, close to a record high.
Focus on ETFs
In this context, investors can follow Eurozone ETFs like iShares MSCI Denmark ETF (EDEN – Free report) (up 4.4% last week), Franklin FTSE Germany ETF (FLGR – Free report) (up 2.4% last week), iShares MSCI France ETF (EWQ – Free report) (up 2.3% last week), iShares MSCI Austria ETF (EWO) (up 2.3% last week), SPDR EURO STOXX 50 ETF (FEZ – Free report) (up 3% last week) and iShares MSCI Eurozone ETF (EZU – Free report) (up 3% last week).
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