Improving economic conditions and strengthening company earnings in Europe are signals that diversified exchange traded fund investors should keep in mind when looking for areas of potential growth after a multi-year run in U.S. markets leaves less opportunities at home.
“We are upgrading Eurozone equities to overweight on a tactical basis due to a combination of stronger growth and earnings momentum, attractive valuations and light investor positioning,” BlackRock’s Maria Eugenia Heyaca, Investment Strategist for ETF Investment Strategy, and Madeline Zeiss, Associate for ETF Investment Strategy, said in a research note.
The Eurozone macroeconomic environment has steadily improved, with a significant uptick in manufacturing and services PMIs over the end of 2016. Eurozone growth may continue to pick up speed ahead after the European Central Bank revealed increased loan demand and easing of terms and conditions on new loans to help stimulate the economy.
Additionally, market analysts have upwardly revised their projections on Eurozone markets as a weakening euro currency, stronger global demand and steepening yield curve help support revenue growth, potentially signaling a turn in the prolonged earnings recession.
Potential investors, though, should keep an eye on further political risks, such as the U.S. anti-trade policies, Brexit negotiations and elections in Netherlands, France, Germany and Italy.
Potential investors interested in gaining exposure to the European markets have a number of options available. For instance, the iShares MSCI EMU ETF (NYSEArca: EZU) and SPDR EURO STOXX 50 (NYSEArca: FEZ) provide access to Eurozone markets. However, the two do not hedge their currency exposure, so they may be negatively affected by a weakening euro currency.
The Eurozone ETFs are also attractively priced relative to U.S. markets, especially after a multi-year bull run has pushed U.S. equities to record highs, with many areas either fairly priced or trading above their historical values. For instance, EZU is trading at a 14.6 price-to-earnings and a 1.5 price-to-book and FEZ shows a 14.2 P/E and a 1.5 P/B, whereas the S&P 500 Index is hovering around a 18.7 P/E and a 2.7 P/B.
“We expect the region to fare well in a better global growth environment and find current valuations to be a potential attractive entry point into eurozone equities,” the BlackRock strategists said.
Investors who believe the euro currency will continue to weaken and are bullish on the Eurozone’s outlook can turn to currency-hedged ETF options, such as the the Deutsche X-trackers MSCI EMU Hedged Equity ETF (NYSEArca: DBEZ), iShares Currency Hedged MSCI EMU ETF (NYSEArca: HEZU) and WisdomTree Europe Hedged Equity Fund (NYSEArca: HEDJ). These currency-hedged Europe ETFs may outperform non-hedged Europe funds if the euro continues to depreciate against the U.S. dollar.
“After a post-U.S. election rally, we see the U.S. dollar on a slow appreciation path, driven by a better growth outlook, a pick-up in inflation expectation and anticipation of future Federal Reserve interest rate hikes,” BlackRock’s Heidi Richardson, Head of Investment Strategy for U.S. ETFs, and Maria Eugenia Heyaca, Investment Strategist for ETF Investment Strategy & Insights, said in a separate note.