Europe Assessment, Updated

Positions in Europe: Short France (EWQ); Long German Bunds (BUNL)


European equity markets largely got a big lift today (+200 – 350bps d/d) on improving ZEW economic sentiment numbers from Germany and the Eurozone as well as news that Japan earmarked $60 Billion to the IMF to help firewall Europe’s sovereign and banking crisis, which was followed by a contribution of $26 Billion from Denmark, Norway, and Sweden late in the trading session. Markets seemingly shrugged off Eurozone inflation of 2.7% in March Y/Y versus an expectation of 2.6% and UK CPI jumping 10bps to 3.5% in March Y/Y.

 

Today’s performance rings true with the investor psychology we’ve witnessed around European capital markets (equities in particular) over the last two years: gains ahead or on positive headline numbers or news followed by selling and rising credit yields on weak underlying fundamentals, a shift in geographic risk, a better understanding of sovereign and banking risk, or the inability of governments to meet their fiscal consolidation targets (to name a few).

 

We continue to signal that despite all the positives from such programs as the EFSF, ESM, LTRO, SMP, and increased funding to the IMF, programs designed to help firewall and provide liquidity to Europe’s fiscal and banking risks, they do little to bind Europe under a growth strategy.  A positive growth profile is critical for investor confidence to buy equities, countries to pay down their debt and deficits through tax receipts, and more broadly for the market to clearly diagnose that Europe is out from under its dark cloud.

 

We continue to signal Spain as a risk that may not be fully priced in the markets. Here our focal points are: Spanish housing prices could have another 30% downside; a housing drop would further impair Spanish lenders that are already levered to loan developers and homeowners; Spain’s massive unemployment rate at 23% will not improve anytime soon; and Europe may be underfunded to bailout Spain. 

 

We’re long German bunds and short France in the Hedgeye Virtual Portfolio. More broadly, we’re comfortable shorting Europe’s PIIGS, at a price, because we think there’s a very long tail of negative to slow growth given their policy of austerity without a growth strategy. And we’re positive on Europe’s fiscally stronger nations, like Germany, but vigilant that the whole can bring down a strong entity. On the EUR/USD, we expect it to continue to be range bound between $1.29 and $1.34. Trade the range.

 

Below are today’s relevant data points in charts:

 

Europe Assessment, Updated  - 11. zew

 

Europe Assessment, Updated  - 11. eurozone cpi

 

Europe Assessment, Updated  - 11. UK CPI

 

Matthew Hedrick
Senior Analyst


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