European Stock Climb Boosts Draghi

Market Trends - 07/04/2015

Embattled ECB President Mario Draghi has gotten the short end of the stick as he works tirelessly to turnaround the faltering Euro Area economy. After years of begging and pleading for fiscal reform and stimulus from Euro members, his arguments have largely fallen on deaf ears. The structure of the Euro Area and incessant stress on balanced budgets has overwhelmingly doomed many of Draghi’s best intentioned ideas for reversing the economic slide. With bond rates at record lows across the Euro Area, regional Governments should be borrowing as much as possible to finance growth in the local economies. The current emphasis on austerity is killing any chance of success in utilizing unconventional monetary policy to stem the Eurozone’s decline. This is the time to promote deficit spending while focusing efforts on economic stimulus to usher in an actual macro recovery. Draghi has managed to reap some benefits from looser policies, although whether growth at the expense of a weaker Euro can be attributed to Central Bank policies is a different matter. The real test is whether inflation rebounds towards his ambitious estimates in the second half of the year.

If the discussion centers around the ECB’s quantitative easing program, the initiative has achieved higher equity valuations, in similar fashion to what was witnessed vis-à-vis the American and Japanese equivalents. However, Eurozone nations still operating in an austerity driven environment means the actual amount of sovereign debt issuance may fall well short of the ECB’s asset purchase objectives. The grand intention of this program is easing lending friction, however, lending around the Euro Area remains stalled contrary to the program’s target of spurring borrowing and investment. Banks would rather choose to invest in potentially higher yielding assets such as stocks versus channeling reserves into loans that will receive marginal interest and have a higher risk of default. As such, regional benchmarks such as the Portuguese PSI and German DAX 30 have largely benefited from these unconventional monetary policies. The two indices marked the best performance of any European assets in the first quarter of 2015 and are likely to prove outperformers in the coming months as quantitative easing sees equity valuations inflate further. However, just like a balloon, when the ECB’s easing ends, the possibility of a pop is the looming risk factor.


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