I’ve said it before, but I’d hate to play Mario Draghi at poker.
The European Central Bank boss managed to call the market’s bluff yet again yesterday. He managed expectations ahead of the announcement, and then beat them.
Europe now has the quantitative easing (QE) that everyone’s been waiting for.
So what now?
Don’t be distracted by nitpicking – this is ‘proper’ QE
We summed up the eurozone QE package yesterday afternoon. In short, the ECB is printing €60bn a month until at least September 2016. But the key is that this isn’t a strict deadline. If inflation is still below the target 2%, QE can be extended.
You’ll read a lot of nitpicking over the details. Some people have made a big deal out of the distinction between buying by ‘national central banks’ versus the European Central Bank (ECB).
The idea here is that if Spain’s central bank (for example) buys Spain’s government bonds, then the only country on the hook if Spain defaults is Spain itself. So it’s not ‘proper’ risk-sharing, and the ECB isn’t acting as a proper lender of last resort.
But this is just a distraction. It’s a fig leaf to offer the Germans plausible deniability, to maintain the pretence that being part of a monetary union doesn’t necessarily involve taking any responsibility for your fellow currency users.
Draghi basically said as much himself at the press conference. As Martin Sandhu puts it in the FT, “the ‘demutualisation’ of risk is an economically irrelevant trick that solved the political problem of Germany’s scepticism about QE”.
The point to take away is this: Mario Draghi is in charge, and he can print money to underpin the European banking system and government finances. For our purposes, as investors, Europe now has QE which is very much along the lines of what we’ve seen elsewhere in the world.
So what does it all mean?
QE isn’t the answer, but that doesn’t matter for investors
QE isn’t the answer to any of Europe’s economic problems. All it really does is buy time. It reassures investors that no one is going to be allowed to go bust. And that means they’re willing to keep financing the huge debt levels that landed us in this situation in the first place.
From that point of view, the German take on QE is absolutely right. QE can’t do the heavy lifting. Economic systems and labour markets need to be reformed.
Trouble is, if you want to do this the quick and painful way, then you have to have a bit of give and take between borrowers and lenders. There’s no way that Greece, for example, can realistically repay its national debt pile. So if you’re unwilling to negotiate on that, and you don’t want them to walk out of the eurozone, then you have to give them a backdoor bailout.
QE in Europe also raises some more tricky questions about currency wars. The Danish had to slash interest rates for the second time in a week yesterday to maintain the krone’s peg to the euro.
You now have a situation where two of the biggest, most powerful exporters in the world – Japan and Germany – are benefiting from artificially cheap currencies. Is that a situation the rest of the world is going to tolerate for long?
And how long can the Fed sit around and stay relaxed about the rising strength of the dollar? I suspect that Draghi had Janet Yellen’s full approval when he launched QE yesterday – at the end of the day, a massive deflationary pit opening up in Europe is not bullish for the US economy either. But the strong dollar is going to start to pinch, particularly when the US stock market is so expensive.
How to profit from Draghi’s QE
All very interesting, I’m sure you’ll agree. And they’re all issues that are going to be dominant themes this year. But what does QE mean for investors right now?
Here’s what QE does: it weakens the host currency. And it boosts asset prices. As a sterling buyer, I’m not overly concerned about the currency impact, though we will be looking for simple ways to hedge exposure for those who do.
In short, stick with buying European stocks. I’ve always liked Italy (you can buy it with the iShares FTSE MIB exchange-traded fund (LSE: IMIB)).
And now that the ECB has done QE, I have to say that I think it makes a punt on Greece look a lot more attractive too. Regardless of the election outcome, Greece is not on the verge of flouncing out of the eurozone, particularly if it feels that things are going its way. I’m not saying you should stick your life savings into the market, but if you fancy a flutter, then the Athex market might just pay off.
If you’re looking for ‘safer’ plays on the eurozone, my colleague Matthew Partridge covered several stocks that should do well regardless of the monetary backdrop in the latest issue of MoneyWeek magazine, out now. If you’re not already a subscriber, you can get your first eight issues free here.
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