Fitzsimmons: Why Euro Stocks Have More Room To Run

March 10, 2015

Brendan Fitzsimmons is head strategist at Medley Global Advisors, a global macro research and advisory firm based out of New York. The firm is part of the Financial Times' media empire, and is run by the former editor of Lex, the FT's incisive investment column. Medley Global's goal is to tap into FT's full reach of the world's leading policymakers, government officials and investment experts for insights that will be valuable to the world's top hedge funds, institutional investors and asset managers

Fitzsimmons sat down with to discuss the latest policy moves from central banks, and what that means for global stocks, currencies and bonds. He also tells us what he expects out of the eurozone and Japan in 2015. In the first two months of 2015, plunging oil, the ECB's QE and Greece dominated the headlines. What else should investors be focusing on?
Brendan Fitzsimmons: Part of the reason why you had so much attention to ECB QE—and part of that itself being a function of the collapse in energy prices, and therefore the impact it had on headline inflation, which has been the motive for getting enough of a majority across the ECB to move forward—is you've got a lot of policy moves that have happened by many central banks over the last couple of months. You can start from the end of October with the BOJ move.

You have the benefit of, for most countries' economies, the lower energy prices—especially to the extent that they no longer are continuing unrelentingly downward where you hit a potential inflection point where an additional dollar drop in a barrel of oil no longer has a net positive takeaway.

What people haven't been thinking about and are just now starting to conceive of is, given the fact that the U.S. economy continues to grow and other parts of the world are showing stabilization or slight improvement rather than further deterioration—this thesis that has been predominant outside of the U.S. story for the last several quarters, which is one of increasing recession and disinflation, and, in fact, the factors that provoke the policy responses we've seen—the tension has tended, until very recently, to be about, when does the U.S. get wound into that reality that defines most of the rest, rather than, is the U.S. story and the rest of the world, with a little bit of lag time, with a little bit stronger dollar, weaker oil, more policy from various forces, seeing more stabilization and a potential for the gap closing towards growth and reflation rather than towards recession and deflation? So does that bode well for global stocks in general?
Fitzsimmons: Yes, that's why I said even within the last several weeks you've had that instinct start to be explored. Some areas sooner, more clearly than others, because you still had these hanging issues—in terms of Greece, and there was some tension about less clarity on Russia/Ukraine. They're still out there, but you've already started to see some of that play out in the rallies in global equities in the last couple of weeks. A couple of weeks ago, you had a revision lower in global growth to 3 percent. That may in retrospect be the low, and you could start to see them revised upward.

Obviously, these revisions upward come with a lag. So there's still space for the market to dispel some of its greatest anxiety about persistent disinflation leading to deflation through an unanchoring of expectations and evidence that growth is stabilizing, if not improving. Like you said, falling oil prices have eased inflationary pressures, allowing central banks to cut rates. But is that fueling a global currency war?
Fitzsimmons: The flexibility to adjust policy lower, in most of these countries, is welcome, and as long as the currency response is not dislocated and works against the ability to ease policy, many countries are not particularly concerned. To the extent that the U.S. bears the burden, it's the flip side of when the U.S. enjoyed the benefits of the broadly weaker dollar. Although it wasn't being pursued in that regard, you had that.

The irony is no greater than in Brazil, where they were at the front end of the currency war rhetoric previously when the real went down to 1.55 or 1.60. Now, ironically, they have one of the worst-performing currencies against the dollar and we're at risk of testing 3 real to the dollar. It's not because they have suddenly sought to pursue a weaker currency or that the U.S. has sought to see as strong of a move as we've seen broadly in the dollar.

It's really a function of very different respective cyclical environments. Brazil is a good example in that it hasn't been able to ease policy because of the unfortunate combination of the political aftermath of uncertainty around the elections, plus the continuing weakening growth dynamic and the persistence of high inflation that has been made worse by some administered price increases.

So that's a good example where the market has weakened the currency, not because the bank has been cutting rates; it's the opposite: It's got one of the highest real rates out there, but it's because of the mix of growth and inflation is relatively toxic. For other countries, it's not a pursuit of a weaker currency, it's more taking the opportunity to ease that's been largely provided by weaker oil. So on the flip side of that, with the U.S. dollar being so strong right now, does that spell trouble for Fed Chair Yellen to begin raising rates this summer?
Fitzsimmons: The dollar's been stabilizing at a high level of late. There's no question that from the second quarter of last year through the beginning of this year, it was unrelentingly strong. But you had some stabilization in that relative strength. In terms of how much additional damage it does to corporate earnings for multinationals, how much impedance it provides the Fed would have to get past in order to initiate and sustain liftoff, if we're settling into a period of relative stability, it may not be something that derails either the earnings story, the growth story or the capacity of the Fed to initiate liftoff. What are your overall thoughts on the fixed-income markets in 2015? If Fed Chair Yellen raises nominal rates as expected this summer, is that going to shock the markets, or will it be a nonfactor?
Fitzsimmons: To some extent, you've already gone through part of the shock. At the beginning of this year, we took yields lower despite the fact that the U.S. economy was coming off the 5 percent third quarter and good numbers in the fourth quarter. Yet yields went lower because of the global demand for yield.

We've seen some of that already be unwound in this move back above 2 percent in the U.S. 10-year, as your benchmark. So you've moved from the low of several weeks ago and you've moved basically 50 basis points. So if you see a follow-through based on the confirmation of the forecast for continued strength and activity and labor, then the scope for a lot of distress for another taper tantrum is probably reduced.

Where you would get into a more uncertain situation is if the perception was that they were moving despite the lack of evidence. Or, to the other end, if they wait a little bit longer to be extra certain and then it turns out in retrospect that their expectations were right, but having waited a little bit longer, you start to get base effects that suggest you're further behind. But this is mostly a market-perception issue. It's less of a Fed forecast issue. It's just that the market has tended to repeatedly embed a discount into the expected path.

It's also tended to have a less bullish view of the economy on a persistent basis. So the risk to a dislocated higher yield in the U.S. economy would require, in U.S. markets, a set of conditions that are not the most likely for this year. In December when we spoke, you said euro-hedged ETFs were enticing. Since then, that strategy's done extremely well. How much room do eurozone stocks have to run up further?
Fitzsimmons: There's no question that there's room for European stocks to incorporate more visibility about this policy accommodation, which has only just been announced in January and won't even start until later this month in terms of the sovereign QE.

In terms of the underlying macro fundamentals, you've probably seen the worst of the negative revisions in growth, so the growth numbers should start to go higher in upcoming forecasts. You've already seen it in the way the German economy finished last year, and there's nothing to suggest that the first quarter is anything but a continuation of that theme. So you're talking about the single biggest part of the eurozone economy growing at more than 2 ½ percent annualized. It's clearly above trend.

There's that leadership aspect, and then for the rest of the eurozone, there's the potential that the entirety of the eurozone is in positive numbers for this year. So that would be remarkable. So while we started to price a better story in the last several months in European equities, there's room for more growth to be incorporated as the revisions change and as policy is actually delivered.

Whether or not that plays out also in the currency side, which ties into the issue of expression, I think that's more open to question and ties into the conversation about the dollar and currency wars. If the eurozone is going to see dollar/euro at parity, then obviously euro-hedged ETFs will continue to benefit.

But it's possible that you have a stabilization in the euro amidst this growth, and that's where it gets into issues of how you express that expected improvement in European equities. The other country where a central bank is engaging in aggressive QE is Japan. What is your view on Japan for 2015?
Fitzsimmons: Having had the opportunity to move more adroitly when they encountered the lower that expected and more persistent than expected inflation, which triggered the additional easing at the end of October, our sense is that they're unlikely to move again to the extent that they continue to judge the lower inflation prints as predominantly a function of the lower energy prices.

So, as long as that's the case, our sense is that they think they've done enough, and especially because they were able to act without the collective action and coordination challenges that faced the Europeans in getting to that decision. You didn't have that in Tokyo and they were able to move. That is seen as sufficient.

So, they probably are not going to provide additional easing. It's possible if necessary, but they don't think that it's going to be necessary or that it's the optimal mode to be in. They also remain optimistic that you're going to see continued improvement on the activity side, particularly to the extent that you've removed the uncertainty of the negative impact of further adjustment higher in the consultant tax. So having taken that off the table as Abe did at the end of last year, and also having gotten the additional easing from the Bank of Japan, you have a good set of ingredients. Thanks for your time. INSIGHT

iShares Currency Hedged MSCI Germany (HEWG | D-42)

Fitzsimmons specifically calls out Germany as leading the way for stabilization and outright growth in Europe. He also sees the euro continuing to slide against the dollar, which points directly to a currency-hedged option. ETF investors have no fewer than 3 euro-hedged German equity funds to choose from, of which iShares' HEWG is by far the largest and most liquid. HEWG's structure and approach is simplicity itself: The fund is literally a hedged version of the rock-solid iShares MSCI Germany fund (EWG | A-96), a "plain vanilla" German equity ETF. HEWG therefore differs from FX-hedged ETFs from WisdomTree, which typically screen for dividend payers and exporters.

WisdomTree Europe Hedged Equity (HEDJ | B-51)

Fitzsimmons previously stated that euro-hedged ETFs were enticing for 2015. Even after their stellar performance in recent months, he still thinks there's room for growth as the macro picture in Europe improves on the back of the ECB's historic QE program. HEDJ is currently the largest and most liquid Eurozone-focused, euro-hedged equity ETF. Besides neutralizing euro exposure, the dividend-weighted fund goes a step further, deliberately tilting its portfolio toward exporting companies that stand to benefit from a plunging euro—consumer-focused sectors get massive boosts in weighting. The popular fund has seen heavy inflows in 2015 and now has close to $13 billion in assets. Alpha Think Tank ETF Tracker

Methodology: ETF selections are made solely by They are neither selected by, nor are they investment recommendations from, Alpha Think Tank strategists. ETF selections are made by the Analytics team based on the themes highlighted in each weekly interview with Alpha Think Tank strategists.

We implement a stop-loss of 10% from the Pick Date, whereby any funds triggered by that stop will drop off the tracker. The tracker data is updated weekly and is subject to change, according to our ongoing interviews with our strategists.

Ticker Fund Name Pick Date TR % (Since Pick Date) TR % (1 Yr) Closing Price $ (3/6/15) Inspired By
INDA iShares MSCI India 2/24/14 39.49 33.91 32.80 Roubini
INDA iShares MSCI India 4/9/14 25.32 33.91 32.80 Kotok
XTN SPDR S&P Transportation 10/15/14 24.21 24.28 106.27 Kotok
DBJP Deutsche X-trackers MSCI Japan Hedged Equity  6/12/14 22.43 24.01 40.71 Roubini
VHT Vanguard Health Care 7/2/14 19.84 24.65 132.66 Yardeni
DBGR Deutsche X-trackers MSCI Germany Hedged Equity  2/24/14 17.38 19.33 27.75 Roubini
HEDJ WisdomTree Europe Hedged Equity 1/12/15 17.18 22.89 65.08 Kotok
MCHI iShares MSCI China 4/15/14 16.97 16.43 50.65 Faber
USDU WisdomTree Bloomberg US Dollar Bullish 4/15/14 15.79 N/A 28.59 Faber
VTI Vanguard Total Stock Market 4/28/14 14.28 12.80 107.46 Luskin
GXC SPDR S&P China 2/3/14 14.13 10.01 79.68 Rogers
IYT iShares Transportation Average 10/15/14 14.12 20.38 160.24 Kotok
HEDJ WisdomTree Europe Hedged Equity 12/3/14 13.89 22.89 65.08 Fitzsimmons
RSP Guggenheim S&P 500 Equal Weight 3/10/14 13.46 13.23 80.78 Dorsey
ITA iShares U.S. Aerospace & Defense 5/5/14 13.14 11.94 122.15 Bremmer
GMF SPDR S&P Emerging Asia Pacific 4/9/14 11.89 15.48 86.18 Kotok
USDU WisdomTree Bloomberg US Dollar Bullish 9/23/14 11.11 N/A 28.59 Yardeni
DXJ WisdomTree Japan Hedged Equity 1/12/15 10.75 25.32 54.54 Kotok
USDU WisdomTree Bloomberg US Dollar Bullish 9/29/14 10.03 N/A 28.59 Roubini
BAB PowerShares Build America Bond 4/9/14 9.76 11.22 29.67 Kotok
XLU Utilities Select SPDR 4/9/14 9.63 16.13 43.39 Kotok
INDA iShares MSCI India 7/23/14 9.56 33.91 32.80 Bremmer
VTI Vanguard Total Stock Market 6/10/14 9.03 12.80 107.46 Friedman
NKY Maxis Nikkei 225 2/3/14 8.85 7.16 18.46 Rogers
EWJ iShares MSCI Japan 3/3/14 8.64 7.51 12.31 Friedman
DBJP Deutsche X-trackers MSCI Japan Hedged Equity  11/18/14 8.30 24.01 40.71 Luskin
VTI Vanguard Total Stock Market 10/24/14 8.29 12.80 107.46 Bremmer
EWH iShares MSCI Hong Kong 4/15/14 7.15 10.17 21.43 Faber
IYY iShares Dow Jones U.S. 9/3/14 5.91 13.18 104.63 Dorsey
VIS Vanguard Industrials 7/2/14 5.34 8.52 107.09 Yardeni
INDA iShares MSCI India 11/18/14 5.11 33.91 32.80 Luskin
FNDX Schwab Fundamental US Large Company 9/23/14 4.93 12.53 30.00 Yardeni
GXC SPDR S&P China 10/8/14 4.82 10.01 79.68 Merk
INDA iShares MSCI India 9/8/14 4.61 33.91 32.80 Fitzsimmons
ITB iShares U.S. Home Construction 2/4/15 4.33 6.20 26.82 Luskin
MUB iShares National AMT-Free Muni Bond 7/16/14 3.14 5.67 108.83 Kotok
EPI WisdomTree India Earnings 9/3/14 3.03 37.38 23.58 Dorsey
SGOL ETFS Physical Swiss Gold 11/4/14 2.91 -11.00 114.06 Faber
XTN SPDR S&P Transportation 1/8/15 1.91 24.28 106.27 Yardeni
AMU ETRACS Alerian MLP ETN 1/27/14 1.44 -0.66 27.53 Luskin
AIRR First Trust RBA American Industrial Renaissance 2/23/15 0.97 -8.20 18.06 Bernstein
SCPB SPDR Barclays Short Term Corporate Bond 3/17/14 0.94 0.90 30.65 Yardeni
IYT iShares Transportation Average 1/8/15 0.73 20.38 160.24 Yardeni
EIDO iShares MSCI Indonesia 2/12/15 0.66 4.77 27.14 Dorsey
IEMG iShares Core MSCI Emerging Markets 4/28/14 0.33 2.68 47.46 Luskin
SIVR ETFS Physical Silver 11/4/14 0.33 -23.54 15.63 Faber
PXH PowerShares FTSE RAFI Emerging Markets 2/17/14 0.20 1.12 18.40 Arnott
HYD Market Vectors High-Yield Municipal 2/23/15 0.12 10.39 30.60 Bernstein
EWW iShares MSCI Mexico Capped 1/20/15 -0.32 -4.06 56.62 Bremmer
TAO Guggenheim China Real Estate 8/12/14 -0.92 13.59 20.90 Faber
GULF WisdomTree Middle East Dividend 3/10/14 -0.98 -0.78 20.78 Dorsey
EWW iShares MSCI Mexico Capped 3/3/14 -1.30 -4.06 56.62 Friedman
EIDO iShares MSCI Indonesia 5/28/14 -1.91 4.77 27.14 Fitzsimmons
BKF iShares MSCI BRIC 5/22/14 -2.23 6.27 35.54 Arnott
TLT iShares 20+ Year Treasury Bond 2/12/15 -2.33 22.12 123.50 Dorsey
EWY iShares MSCI South Korea Capped 2/24/14 -3.41 -5.75 56.79 Roubini
EWS iShares MSCI Singapore 5/5/14 -3.78 2.25 12.56 Bremmer
IXC iShares Global Energy 2/18/15 -4.08 -12.76 35.81 Faber
ROBO Robo-Stox Global Robotics and Automation 3/3/14 -4.24 -5.01 25.79 Friedman
EIDO iShares MSCI Indonesia 7/23/14 -5.39 4.77 27.14 Bremmer
VNM Market Vectors Vietnam 4/15/14 -6.09 -7.40 18.76 Faber
DBB PowerShares DB Base Metals 5/8/14 -6.25 -9.87 14.73 Gartman
ELD WisdomTree Emerging Markets Local Debt 2/17/14 -6.55 -7.73 39.60 Arnott
IAU iShares Gold Trust 1/27/15 -6.74 -10.88 11.28 Merk
AUNZ WisdomTree Australia & New Zealand Debt 10/22/14 -7.18 -6.62 18.05 Gartman

Data as of 3/6/15



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