The Potential of further QE in Europe is Driving Equities

Article written by Antoine Briffa

European stocks closed 1.13 percent down on Wednesday as investors awaited minutes from the Federal Reserve gauge whether market analysts were taking the possibility of a rate hike too lightly.

This was the fourth day that the European Stoxx 600 index fell following a remarkable eight days of gains. Crude oil followed the same trend as equities, as did precious metals.

These movements follow comments by New York Fed President William Dudley and Atlanta Fed Chief Dennis Lockhart which indicated that a rate hike this year remained possible despite mixed growth data in the United States.

These comments pushed the probability of a rate hike in the United States above 50 percent in futures markets for first time since the Brexit vote. Before these comments equity markets traded strongly upwards cancelling out the effects of the UK leaving the EU in most regions.

The comments by the Fed may be interpreted as a way for the US monetary authority to manage market expectations. US equity indices continue to move from an all-time high to another amidst economic data and earnings reports that are often inconsistent.

The menu that equity investors are being offered appears somewhat poisoned. On the one hand an investor can invest in US equities which are supported by often strong economic data.

But optimism is often tempered by expectations of a rate hike and arguments of an imminent negative cycle.

European Equities appear on paper preferable to their US counterparts. Most European Equity indices have only recently recovered from the sell-off that followed the Brexit vote. The EU

is also awash with monetary support. The ECB is Currently pumping €80 Billion a month into the Eurozone.

However, the Eurozone remains subject to a fragile banking system, huge fiscal constraints and escalating geopolitical tensions.

Under these conditions European investors may consider some allocation to European equities at this stage. With hindsight, the Brexit vote presented an ideal buying opportunity; from the bottom that followed the vote the Euro Stoxx 50 Index recovered 8 percent. The German DAX Index performed a little better and recovered over 13 percent.

The last few day’s dip may not represent a major correction, however, it may be an opportunity for investors wishing to capitalise from eventual increase in ECB monetary easing. There is a significant chance that the ECB adds to it QE program in September.

Should this materialise European Equity markets would receive a significant boost. However, investors should be aware that the decision is not a given and markets can react negatively if expectations are not met. Markets have rarely been this difficult.