European Central Bank (ECB) Interest Rate Preview, September 6, 2017

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The ECB is expected to signal it will begin to taper its QE program sometime in 2018 at tomorrow’s meeting; however, the details regarding that tapering announcement remain unclear.

Why It Matters: The dollar. The falling dollar, which is down more than 10% year to date, has been an under-appreciated tailwind on the stock market (a weaker dollar boosts exports and corporate profits). If the ECB is more hawkish than expected tomorrow, that will cause a potentially big reversal in the dollar. I say that, because “long euro/short dollar” is a very crowded trade at the moment, and if it reverses, it could be violent.

The reason this meeting will punch above its weight from a market standpoint is because the ECB commentary on tapering will be (correctly) taken as implicit commentary on the strength of the euro.

The market assumes that the ECB is not concerned about current euro strength. If the ECB fails to announce tapering intentions tomorrow, or is very vague about those intentions, the market will infer that the ECB thinks the euro is too high. If that happens, the euro will drop, hard, and the dollar will soar—and that will likely be a headwind on US stocks, and a (big) tailwind on European stocks (so HEDJ will begin to rally again).

Meeting Expectations If: ECB President Draghi confirms, at the press conference, that the ECB Governing Council intends to taper QE in 2018, and that it will reveal details of that plan at a future ECB meeting. So, Draghi announces tapering is coming, but doesn’t give any details.

Dovish If: Draghi does not announce the intention to being tapering QE sometime in 2018. This is a remote possibility, but given the strength in the euro I don’t want to completely rule it out.

Mildly Dovish If: Draghi announces that the ECB intends to taper QE, and that it will announce the details at the December meeting, at earliest. Draghi likely won’t single out December, but he won’t say details will be revealed at the “next” meeting, which would be October.

Hawkish If: Draghi announces that the ECB intends to taper QE, and says the details of the taper will be revealed at the “next” meeting. That’s the key phrase to watch for. If that’s the case, look for the euro to modestly rally as there is not clear consensus on an October reveal, and that would be taken to interpret urgency on the part of the ECB, and a disregard for the strength in the euro. It’s the latter point that would cause the euro to rally.

Finally, I don’t want to say that something is impossible, but it’s incredibly unlikely that Draghi and the ECB will reveal detailed plans regarding the tapering of QE tomorrow. The wide consensus will only be to announce they want to start tapering QE.

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ECB Rate Decision, June 9, 2017

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The ECB Decision left rates unchanged, and made no changes to the QE program, as expected.

ecb rate decision

ECB Rate Decision Takeaway

The ECB met expectations Thursday, as they changed the risk assessment to “balanced,” and also removed the potential for lower interest rates going forward.

Overall, it was an anticlimactic meeting as the committee took another step towards the eventual end of QE, but gave no indication that the end of QE or rate hikes would occur sooner than was currently expected. As a result, the market largely yawned at the decision.

The euro dipped slightly on the news, despite it being a technical “hawkish” shift, and that’s because this result was already priced into the euro above 1.12. Thus, we saw a classic sell-the-news reaction.

Going forward, with the euro at current levels, whether the rally continues will depend more on US and EU economic data than anything else, as central bank policies for both the Fed and ECB are well known (the Fed should hike next week, and stick to the current guidance of three hikes for 2017).

From a bond standpoint, German bund yields dipped slightly following the statement, again a sell-the-news reaction. However, Treasury yields bounced slightly, mainly due to how short-term oversold they are. Bottom line, the ECB interest rate decision did not provide any sur-prises, and it will not cause Treasury yields to embark on a rally. Whether yields can rally from here will depend on economic data.

From an equity standpoint, I do not view this decision as negative for European stocks, and I remain bullish on European stocks via HEDJ and EZU. It’ll take a material uptick in US economic data for the euro to begin to weaken materially vs. the dollar over the next few months, but even if that doesn’t happen, the positive economic growth and continued QE should continue to put a tailwind behind EU stocks.

The Case for Europe, March 21, 2017

Sevens Report - The Case for EuropeThe Case for Europe, an excerpt from today’s full Sevens Report. Join hundreds of advisors from huge brokerage firms like Morgan Stanley, Merrill Lynch, Wells Fargo Advisors, Raymond James and more… see if The Sevens Report is right for you with a free trial.

For the past several weeks, I’ve been consistently mentioning Europe as an attractive tactical investment idea. Today, I wanted to more fully lay out the investment thesis, one that is based on 1) Compelling relative valuation, 2) Continued central bank support (i.e. QE), and 3) Overestimation of political risks.

I believe those three factors have created an attractive medium-term risk/reward opportunity in European stocks, and I believe the region can outperform the US over the coming months, especially if we see policy disappointment from Washington.

Bullish Factor #1: Compelling Relative Valuation.

The reasoning here is simple. The S&P 500 is trading at the top end of historical valuations: 18.25X 2017 EPS, and 17.75X 2018 EPS. There’s not much room for those multiples to go higher, and if we get policy disappointment or the economic data loses momentum, markets could hit a nasty air pocket.

Conversely, the MSCI Europe Index is trading at 15.1X 2017 earnings, and 13.8X 2018 earnings. That’s a 17% and 22% discount to the US. So while it’s true Europe should trade at a lower multiple vs. the US given the still-slow growth and political issues, those discounts are pretty compelling. In a world where most equity indices and sectors are fully valued, Europe offers value.

Bullish Factor #2: Ongoing Central Bank Support.

This one also is pretty simple… the ECB is still doing QE. The ECB is still planning to buy 60 billion euros worth of bonds through December of this year. That will support the economy, help earnings and push inflation higher, all of which are positive for stocks. Now, there is a risk that the ECB could begin to taper its QE program before December, or end it all together in December, but neither risk looms immediately, and the much more likely result is that the ECB tapers QE starting in 2018 and ends the program in June 2018. In that scenario, the outlook for Europe over the coming months remains positive.

Bullish Factor #3: Overblown political risk.

We’ve been talking about this for a while, but the fact is that political risks in Europe are overblown, and just like people underappreciated risks in 2016, I believe they are now overreacting to Brexit and Trump by extrapolating those results too far.

Going forward, there are really two important elections this year: France and Germany. The worry is that far-right candidate Marine Le Pen will win the presidency, but that remains extremely unlikely. The top end of her support looks to be just 25%, which might be enough to win the first round of voting (where voters will cast ballots for no less than 11 candidates). Yet according to all the polling, she badly loses the second round of voting by margins as big as 30% to 70%. Point being, Le Pen is not Brexit, and she’s not Trump.

Second, Germany will have elections in September, and Social Democrat leader Martin Schulz will challenge Merkel for the Prime Minster position. Schultz is a former President of the European Parliament, and he’s not anti EU at all. So, if he wins, from an EU outlook standpoint, it isn’t a negative. Now, I’m not going to get into the details of his politics, because they aren’t yet important for this investment. The bigger point is that it’s not really a problem for the European economy if Schultz wins. Bottom line, we’ve done well in international investments in the past (Japan during Abenomics, Europe when they started QE), and we believe this is another opportunity to outperform.

How to Play It: VGK vs. EZU vs. HEDJ. For subscribers only.

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Disappointing Numbers from Flash February Manufacturing & Service PMIs: February 22, 2017

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Flash February Manufacturing & Service PMIs

  • Feb. Manufacturing PMI declined to 54.3 vs. (E) 55.5.
  • Fed. Service PMI declined to 53.9 vs. (E) 55.9.


In what was a surprising contradiction to last week’s very strong Empire and Philly manufacturing PMIs, both flash PMIs declined, and implied increased stagflation risk, signaling that further economic acceleration is not a foregone conclusion.

Now, to be clear, neither number was outright bad in an absolute sense. Both numbers in aggregate are reflective of a decently strong economy. Yet in order to power stocks higher in the context of growing political dysfunction, data needs to continue to show acceleration, and neither of these flash PMIs showed acceleration.

Declines in Nearly Every Sub Index of the PMI

Looking specifically at the manufacturing PMI, New Orders, the leading indicator in the Report, dipped to 56.2 from 57.4 (still a very high absolute reading but a decline nonetheless). In fact, virtually every sub index declined in February except for input prices, which rose slightly to 56.1 from 56.0. Notably, output prices (i.e. selling prices) dipped slightly to 51.7 vs. 51.9, which is indicative of margin compression. One number doesn’t make a trend, but that’s something to keep an eye on.

Bottom line, the flash PMIs are one of the bigger economic numbers each month, and this was a surprising disappointment. It won’t change the trajectory of the rally near term, but strong (and stronger) economic data is a critical support to this market, especially in the face of growing doubts in Washington. So, the rest of February’s data just got a lot more interesting.

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