Look for value, expect volatility
With all that said, there are parts of the European equity market that appear attractive, particularly cyclical companies in northern Europe. Many of these firms sell their products and services globally, but their stock prices have been discounted due to the fact that they’re domiciled in Europe. A word of caution: While European cyclical stocks may offer some value, a high level of volatility is to be expected, particularly if the ECB is slow to act.
With the U.S. midterm elections over and the presidential election still two years away, 2015 may be a year of relative calm, though not of productivity, for American politics. Not so in Europe. Reform efforts are facing growing opposition from populist parties and fatigued voters. Although the ECB can and probably will mitigate the volatility with more easing efforts, politics will be a source of headline risk for European assets in 2015 and probably beyond.
Market Realist – Europe might look to be attractive for investors looking for value buys in a relatively expensive world. Many investors are also drawn to Europe in the hope that ECB (European Central Bank) action will help keep the mood in the European markets buoyant. However, a word of caution to investors: European stocks might be subject to high bouts of volatility in 2015. You can safely expect volatility to be one of the characteristic features of the European markets in the new year. International central bank divergence is one of the reasons.
Market Realist – Even as the ECB contemplates quantitative easing, the US already concluded its bond buying program (TLT)(IEF) in October 2014. The Federal Reserve had kept rates near zero to counter the effects of the recession. You can see this effect in the graph above.
The Fed is likely to hike rates in 2015, as the US economy has convalesced well from the US financial crisis (XLF) of 2008 and is well placed on the path of economic growth. The hike in rates might cause investors to flee from Europe and to flock to US stock (SPY) and bond markets (TLT)(BND).
Market Realist – The graph above shows the balance sheet size of the Federal Reserve, the European Central Bank, the Bank of Japan, and the Bank of England. Though the US expanded its balance sheet the most through its asset purchase program, the size of its balance sheet is likely to reduce over time. In contrast, the ECB is likely to increase the size of its balance sheet to support the sagging European economy.
Greek political instability might cause trouble for European stocks. Plus, plunging oil prices (BNO)(USO), the Russia (RSX)–Ukraine conflict, and the growing strength of the dollar (UUP) against the euro might cause volatility going ahead.
Read our series How Greece’s political crisis may impact your investments in the Euro area for more insight.