International bond exchange traded funds with European exposure could advance as the European Central Bank could be forced to pay a premium on bond purchases and lift prices on all Eurozone debt in response to the lack of supply.
While there are no Europe-focused bond ETFs available, investors can gain exposure to the region through broader international fixed-income ETFs. For example, the SPDR Barclays International Treasury Bond ETF (NYSEArca: BWX) includes U.K. 7.9%, Italy 6.6%, France 6.5%, Germany 5.2%, Belgium 4.6%, Spain 4.7%, Netherlands 4.6% and Austria 3.5%, among others. The iShares International Treasury Bond ETF (NYSEArca: IGOV) includes Italy 7.3%, France 6.7%, U.K. 5.8%, Germany 5.8%, Belgium 4.6%, Ireland 4.6%, Spain 4.7%, Austria 4.3% and Netherlands 4.5%.
Additionally, the Vanguard Total International Bond ETF (NYSEArca: BNDX) provides broad exposure to international debt, including foreign investment-grade government, corporate and securitized debt while hedging currency exposure, which can diminish volatility attributed to the Forex risks. BNDX also includes a 47.2% tilt toward European countries.
The ECB has enacted a 1 trillion euro bond purchasing program, but analysts are skeptical about the ECB’s chances of actually meeting the supply as investors are unwilling or unable to sell top-rated government bonds, notably German debt, reports Christopher Whittall for the Wall Street Journal.
“It will be challenging for the ECB to source enough government bonds to meet its QE targets,” Anthony O’Brien, co-head of European rates strategy at Morgan Stanley, said in the WSJ article.
The ECB is scheduled to acquire €60 billion, or $68 billion, in debt securities each month until September 2016. Bond purchases will depend on each contry’s share of the Eurozone’s population and gross domestic product, so Germany will make up a large portion of the quantitative easing program at about a quarter of the purchases or €12 billion each month. [Bond ETFs to Capitalize on ECB Easing]
However, there is a limited supply of German government bunds. The German Treasury expects to issue about €147 billion of eligible bonds that mature two to 30 years while €132 billion of bonds will mature, so only a net new €15 billion in debt will be issued this year. Meanwhile, the ECB plans to buy €215 billion of German government bonds between this March and September 2016, or 26 times more than the German government bond market is predicted to grow over the same period.
Investors and institutions have been hoarding European debt. Banks and insurance companies use the bonds to meet regulator capital requirements and central banks utilize the debt to build foreign exchange reserves. ECB President Mario Draghi has stated that the bank will consider purchasing negative-yielding debt to entice current European bond holders but many are unable to let go.
“[European] passive investors and banks are unlikely to sell bunds in large size due to investment mandates and regulatory reasons,” Cagdas Aksu, rates strategist at Barclays .
Bond investors who believe the ECB’s push into German debt can also utilize the PowerShares DB German Bond Futures ETN (NYSE Arca: BUNL) to track German bonds and the leveraged PowerShares DB 3x German Bond Futures ETN (NYSE Arca: BUNT) to capitalize on potentially higher returns, but the leveraged option includes greater risks as well.
For more information on the fixed-income market, visit our bond ETFs category.
Max Chen contributed to this article.
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.