I have just returned from a hen do in Mykonos, Greece. The sun, sand and celebratory drinks came at the perfect time, as I had to move flats three days before and, in common with most of humankind, packing up and transporting all my worldly possessions is one of my least favourite activities.
However, in the cleaning and organising process, I found two EUR 20 notes in my “cash leftover from trips” envelope, plus a staggering EUR 48 in coins from my various coin jars. This was a particularly welcome discovery because the last time I was in the eurozone (in January this year) and withdrew this money, the euro was 9 per cent cheaper against the pound than it is now.
So I had inadvertently conducted my own little currency trade, storing my long position in coins. (I should note, Mykonos prices meant I should have done the trade at least 20 times over).
Why has the euro strengthened?
Euro area macroeconomic data has been surprising economists over the past year. GDP growth has been coming in strong in most key economies, not just Germany and France, but the southern European countries as well.
Euro area unemployment is now at 9.1 per cent, down considerably from its high point of 12.1 per cent in 2013. Another way of looking at the employment situation in the eurozone is that nearly 10m jobs have been added to the economy since the worst levels of unemployment. With the European Central Bank (ECB) now signalling the acknowledgement of this stronger economic performance, markets have priced in less monetary policy support from the central bank.
Thirty-six per cent of eurozone government bond yields have a negative yield, and with growth so strong, we think these yields are currently on the low side. Investors should expect tapering over a longer period, although, ultimately, the negative deposit rate will still have an anchoring effect on yields in Europe.
The speed of euro appreciation since the end of June has been fairly rapid. One could argue that we are getting euro strength for good reasons (capital is attracted to strong economic growth), but the question for the markets is: at what point does it get too strong?
I am not sure if anyone knows what that level is. It is possible that euro strength could push out the tapering announcement a little bit in terms of shifting timing and tone, but we need to see how the currency exchange rate evolves.
Does it affect our equity view?
Euro area equities represents one of our favourite regions in the multi-asset investment space. But we need to acknowledge that a strong currency is theoretically a headwind for an economy.
Companies that rely on foreign demand and exports for their revenues may face some challenges because it will be harder to remain competitive. But the good thing about the recent strength in European growth is that much of eurozone GDP has been driven by strong domestic demand.
The reason for the euro going higher is because the domestic economy is doing better than it has been over the past several years, and that should support the domestically orientated companies. The MSCI EMU (European monetary union) Index sources 42 per cent of its revenues from abroad, which is a sizeable portion, but not enough to derail the overall index earnings.