Stronger Euro Not Hampering European ETFs

How do changes in the dollar's value affect US companies and US exchange-traded funds? It is not as straight forward as it looks. First, a falling dollar raises the dollar value of foreign sales. Big US multinationals receive roughly half of their total sales from overseas. For S&P500 companies it is about 30 per cent of their sales overseas compared with 15 per cent for smaller companies in the Russell 2000) When the dollar weakens, the value of those sales grows. Hence international mega-cap companies, laggards for years, have recently outperformed. A weak dollar im­proves the case for big US stocks.

But look at Europe -- the stronger euro has not hurt their share prices even though they are even more international in terms of sales than most American firms. One of the reasons European ETFs are doing so well this year is the stronger Euro. Remember, international ETFs are not hedged against the US dollar so a weaker dollar will help their returns.

Of the nineteen emerging market ETFs we track, only one is increasing in value. It is the iShares MSCI Mexico Index Fund (EWW). The other seventeen positions have reversed into columns of Os.

The iShares Dow Jones US Transportation Index (IYT) has also recently reversed negatively into a column of Os. IYT has hit $94 twice this year only to fall back, once in February and again in April. In three years IYT has appreciated 78% for an annualized average gain of 26%. Despite the exceptional growth there have been periods of correction such as last May through September when IYT gave up 17%.

HSBC is a leading bank in many financial exchange-traded funds such as the Wisdom Tree International Financials ETF (DRF) where it represents 7.3% of the ETF basket. Formerly known as the Hong Kong Shanghai Banking Corporation, it is a global powerhouse and earlier this year passed Citigroup as the largest bank in the world in terms of market value. This week a second Gulf investor appeared on HSBCs share register in less than two weeks on Tuesday as DIC Asset Management, part of Dubai International Capital, said it had bought a substantial stake in the bank. HSBCs expansion strategy in China has also recently been dealt a blow by the reclassification of its Chinese partner into a significant state-owned bank, a change that would protect the Chinese lender from a foreign takeover. HSBC paid $1.75 billion three years ago for 19.9 per cent of the Bank of Communications which was the biggest stake allowed for a foreign investor under then existing Chinese rules.

According Global Portfolio Research, global fund flow and allocation data, investment flows by global equity managers increased to the US and Asia-ex-Japan while it pulled back from Europe after a nice move since mid March.

Money returned to US Equity Funds and ETFs during the fourth week of April as the benchmark Dow Jones index posted a series of new record highs on the back of a better than expected first quarter earnings season. But uncertainty about China's response to economic growth that clearly exceeds official targets may have dampened flows into emerging markets funds. And, after three weeks of solid gains, investors pulled significant amounts of money out of Western European Equity Funds.

The $3.77 billion that flowed into US Equity Funds and ETFs during the week ending April 25 pulled these funds back into positive territory year-to-date. Small and Large Cap Blend exchange traded funds accounted for the lions share of the fresh money that came in during the week. In the case of the Western European funds, investors decided to lock in profits after this fund group has put in a 9% performance gain since March 22. The perception that mergers and acquisitions activity rather than fundamentals were driving recent gains in major European equity markets triggered some of the $1.01 billion worth of redemptions from these funds, as did the growing concern about Spains property bubble.

Finally, Japan ETFs and funds have been hit with net redemptions seven of the past eight weeks and are once again in negative territory year to date.

Comments

[MichaelBommarito]

Hello Carl, it's surprising to note that over the last three months, appreciation in the Euro, Canadian, and Australian dollar have helped their respective MSCI ETFs so much that they give <i>at least</i> equivalent returns at lower volatilities, as I show here. One could argue that both interest-rate-differen... currency appreciation and equity growth make these already-emerged world ETFs profitable, in contrast to the possible currency valuation and growth complications with emerging world funds.