Can the ECB Save German Stocks? (EWG)

Advertisement

German stocks — as measured by the iShares MSCI Germany ETF (EWG) — have dropped nearly 10% since the beginning of July as tensions with Russia and weak sentiment data have undermined investor confidence.

The question given the recent slide in Europe’s largest stock market is whether current or new stimulus policies from the European Central Bank can help German stocks get back on track.

Recent tensions between the EU and Russia have led to sanctions being imposed on both sides. The EU kicked things off with a salvo of financial sanctions, and Russia retaliated with a complete ban on fruits and vegetable imports from the EU.

This two-way sanction between the EU and Russia has eroded investor confidence, which has resulted in (among other things) a decline in German stocks.

Sentiment and confidence numbers recently released by officials show some of the effects Russian tensions are having on the German economy. The ZEW investor confidence survey reading slumped to 8.6 in August, way down from 27.1 in the previous month and below expectations as well. Another index, the German July IFO, fell from 109.7 in June to 108 in July, also weaker than analyst estimates and good for a third consecutive month of declines.

german investor sentiment

These weak numbers follow much lower-than-expected growth numbers. Second-quarter German GDP contracted 0.2% quarter-over-quarter — weaker than consensus expectations — and Q1 GDP was revised lower to 0.7%, Additionally, first-quarter GDP was revised lower to 0.7% QOQ growth, from 0.8% initially reported.

Can the ECB Come to the Rescue?

Central bank action can have a dramatic impact on the value of equities, as we have seen in the U.S. From the time the Federal Reserve announced its open-ended bond purchase program on Sept. 13, 2013, to the present, the S&P 500 Index has rallied a robust 34.5%.

S&P 500 Index

In an attempt to stimulate the European economy, the ECB announced a robust stimulus program in June, but the most powerful stimulus tool is still waiting on the bench. In September, the targeted longer-term refinancing operation, or TLTRO, will be released. This program allows the ECB to grant four-year loans to banks at a fixed interest rate of 0.25% to encourage the region’s banks to lend to households and private enterprise.

The ECB seems to be content to wait on the sidelines to see if this program can kick-start the European economy. If the results aren’t up to snuff, though, the ECB likely will have to increase stimulus and go with a full-blown quantitative easing program similar to the bond purchase program used by the Fed.

Lower interest rates — and especially a full-blown QE program — could be very beneficial to German stocks.

Stocks experience better performance when interest rates fall for several reasons. For one, one way to value a company’s stock is to take the sum of all the expected cash flows and discount them back to the present — and as interest rates fall, discounting declines and expected cash flows increase.

Additionally, as interest rates fall, fixed-income products such as bonds and certificates of deposits become less attractive, and investors often turn to stocks for returns instead.

What to Do With German Stocks

With sentiment in Germany already low, continued weak performance by the German economy likely will force the ECB into further action. Tensions with Russia should eventually subside, allowing traders to focus on economic performance as opposed to sanctions.

If the TLTRO program is successful, German stock will climb as the economy performs better. If the German economy remains weak, a QE program will buoy stock prices as the ECB floods the market with huge amounts of liquidity.

Either way, you should expect higher stock prices.

Additionally, momentum is beginning to point to higher prices for the German stock market. The moving average convergence divergence index (MACD) on the EWG fund has generated a buy signal, pointing to higher future prices for the German index.

082114-ewg

To take advantage of this, investors should simply buy the EWG, which provides easy access to a bundle of 55 German stocks including companies such as Bayer (BAYRY) and Daimler (DDAIF).

EWG charges just 0.47% in fees, or $47 for every $10,000 invested.

As of this writing, David Becker did not hold a position in any of the aforementioned securities.


Article printed from InvestorPlace Media, https://investorplace.com/2014/08/german-stocks-ewg/.

©2024 InvestorPlace Media, LLC