Stimulus Delayed, But Not Denied For Eurozone

Includes: SPY, VDE, WMT
by: Disruptive Investor


With opposition coming from Germany, the stimulus from ECB has been delayed.

Economic and inflation data suggests that a stimulus is inevitable in order to avoid a deep recession for Eurozone in 2015.

Germany's economy is also losing growth momentum and the country is likely to change its opposing stance to stimulus in the coming months.

The euro will remain weak against the dollar in the coming months.

I remain overweight on the US equities (among developed markets) and a likely Euro-zone stimulus will take US markets higher (driven by ample liquidity).

The European Central Bank did not announce any stimulus for the ailing Eurozone economy on Thursday. The reason is not that the economy is stabilizing or the inflation outlook is brighter.

As this article from Reuters suggests, the reason is opposition within the European Union on further stimulus. In particular, Germany is opposed to further stimulus while Mario Draghi is using the example of US to highlight the positive impact of further expansionary monetary policies.

To put things into perspective on the probability of the stimulus in the coming weeks or months, the below statement from Mario Draghi makes things clear -

"Do we need to have unanimity to proceed on QE or can we have a majority? I think we don't need unanimity."

Therefore, Mario Draghi is committed to bring on further QE and I believe that economic data coming from the Euro-zone in the coming months will strengthen his stand.

According to the Eurosystem staff macroeconomic projections -

These elements are reflected in the December 2014 Eurosystem staff macroeconomic projections for the euro area, which foresee annual real GDP increasing by 0.8% in 2014, 1.0% in 2015 and 1.5% in 2016. Compared with the September 2014 ECB staff macroeconomic projections, the projections for real GDP growth have been revised substantially downwards. Downward revisions were made to the projections for both domestic demand and net exports. (Emphasis added).

Therefore, it is clear that the region's economy is on a downward spiral and I believe that real GDP growth in 2015 can be much worse than expected. The headline inflation is a good indicator of the health of the economy and as the chart below shows, the Euro Area inflation is worst among all the developed markets.

While inflation has decline in all developed markets due to the recent decline in commodity and energy prices, the Euro Area inflation decline stands out for the speed of deceleration and this is a good indication of how rapidly the economy is spiraling down.

The ECB therefore has to jump into action sooner or later and greater the delay in stimulus, the deeper will be a potential recession in 2015.

I must add here that I am not supportive of continued expansionary monetary policies. However, from a policymaker's perspective, the current scenario demands a big stimulus.

There is another important point that can be a trigger to a stimulus relatively soon. The current opposition is coming from Germany and the country's economy is also losing growth momentum as indicated by the OECD leading composite indicators (released November 12, 2014).

I would therefore not be surprised if Germany is also forced to consider stimulus if its economy falters further in the coming months. This will make the task of bringing a big stimulus easier for Mario Draghi.

Considering these factors and the point that Eurozone is getting into a deeper crisis, my investment recommendation remains unchanged from the past.

The current ECB decision might provide a short-term boost to the euro, but the dollar will gain in strength in the coming months and the US equities (NYSEARCA:SPY) will also witness higher portfolio allocation. I would therefore remain invested in the US markets with consumption and energy related themes.

Consumption related themes make sense as the US consumer confidence is at its highest levels since the financial crisis and the festive season will be good for companies like Wal-Mart (NYSE:WMT). In several of my earlier articles, I have highlighted that the energy sector has value buying opportunities and investors can consider the Vanguard Energy ETF (NYSEARCA:VDE) for a broad exposure to the sector. However, I would look at some specific names in the oil & gas sector and investors can browse through some of my recent articles where I has discusses some attractive energy stock picks.

Coming back to the Eurozone and the stimulus, the package has only been delayed, not denied. If the Eurozone economy shows signs of further weakening, the potential stimulus package will be bigger in terms of expansion of monetary base and bond purchase program. I therefore recommend long dollar and short euro trade from a currency perspective.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.