Europe at Minimum Speed

Market forces are correcting the growth dichotomy between the European Union's core and periphery, thus improving the outlook for the region.

May 01, 2013   |    By Scott Minerd

Europeans need to have more faith in their leaders' ability and willingness to print money. bloom.bg/16Naac9

ScottMinerd

Global CIO Commentary by Scott Minerd

Europe’s economy is in disarray and the European Union is not addressing its structural problems. It appears, though, that the situation there will improve as policymakers, and the European Central Bank in particular, continue to buy time.

One of the primary problems in Europe is the legacy that the core, namely France and Germany, is more productive than the periphery. This worsened after the formation of the common currency zone because wages grew faster in the periphery, making those countries even less competitive. This has been self-correcting since 2009, with unit labor costs in the periphery falling, while those in the core have risen. Given current projections, we could see unit labor costs between the periphery and the core converge in the next few years. There is still a chance that Europe’s crisis could become more severe, but regulators are aware of this risk and appear willing to do what is necessary to prevent it. The longer Europe can cruise at minimum speed, the higher the chances become that we will see a favorable outcome.

Strong Market Sentiment Despite Weak Fundamentals

The yield on the eurozone high yield bond index reached a record low of 5.8% last week, and the spread over the corresponding German government bond yield has fallen to its lowest level since October 2007. Despite bullish sentiments in the eurozone high yield market, the eurozone PMI composite, which typically closely tracks the spread, has remained in contraction for 15 consecutive months. The rising divergence between bond spreads and economic fundamentals in the eurozone may reflect investors’ increasing complacency, which is engendered by global central banks’ accommodative policies.

EUROZONE HIGH YIELD BOND SPREAD* VS. EUROZONE PMI COMPOSITE

EUROZONE HIGH YIELD BOND SPREAD* VS. EUROZONE PMI COMPOSITE

Source: Barclays, Haver Analytics, Guggenheim Investments. Data as of 4/25/2013. *Note: The spread is the option-adjusted spread over the benchmark German government bond yields.

Economic Data Releases

GDP Misses Estimates, Weakness Seen in the Manufacturing Sector

Record Jobless Rate in the Eurozone with Deflationary Pressure Accumulating

Important Notices and Disclosures

This article is distributed for informational purposes only and should not be considered as investing advice or a recommendation of any particular security, strategy or investment product. This article contains opinions of the author but not necessarily those of Guggenheim Partners or its subsidiaries. The author’s opinions are subject to change without notice. Forward looking statements, estimates, and certain information contained herein are based upon proprietary and non-proprietary research and other sources. Information contained herein has been obtained from sources believed to be reliable, but are not assured as to accuracy. No part of this article may be reproduced in any form, or referred to in any other publication, without express written permission of Guggenheim Partners, LLC. ©2014, Guggenheim Partners. Past performance is not indicative of future results. There is neither representation nor warranty as to the current accuracy of, nor liability for, decisions based on such information.



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