Passive flows in March showed investors' year long romance with European equities may be drawing to a close. European equities have led developed stock market gains over the past 12 months, but global ETF investors started profit-taking in the asset class in March, with ETFs tracking the Euro Stoxx 50 index hit particularly hard.
According to Morningstar data, European ETF inflows for March showed just over EUR 1 billion in outflows from funds tracking the pan-European index, the largest redemption for any segment for the month. This is in spite of continued good relative performance from eurozone equities. The DJ Euro Stoxx 50 index is up 24.5% over the past 12 months in euro terms, compared to a rise of just 8.45% for the FTSE 100 in sterling terms over the same period. The European index is also still marginally ahead for the year to date.
The Morningstar data also showed outflows of $1.13 billion globally from pan-European developed equity exchange-traded products, going up close to $1.5 billion when including outflows from UK equity ETPs. Leading provider Blackrock blamed this trend on "the slow pace of the eurozone’s economic recovery, downward revisions to 2014 corporate earnings estimates and geopolitical concerns surrounding Russia." A further factor weighing on flows was the persistence of deflationary risks in the eurozone, with the latest data showing HICP inflation of just 0.5% year-on-year in March, the lowest level since 2009, leaving scope for the ECB to cut interest rates further and even firmly consider the option of a quantitative easing programme.
Investors Favour Peripheral over Core
However, the larger eurozone markets were notably more unpopular than the peripheral European markets. ETFs with Southern Europe exposure continued to see inflows in March. Indeed, according to Morningstar data, the likes of Italy and Spain equity ETPs have seen net inflows consistently through the first quarter of 2014, thus suggesting investors continue to see further upside for the region.
The preference among ETF investors for the eurozone's peripheral economies has also been seen across some active and multi-asset portfolios. For example, Marcus Brookes, head of the multi-manager team at Schroders, has been investing in funds with high peripheral European exposure as these economies show signs of recovery. Barry Norris, manager of the Argonaut European Alpha funds, has also been taking exposure to some of the European peripheral economies on the basis that corporate earnings are likely to recover in a climate of improving economic growth.
Periphery Showing Stronger Growth
Ruth Lea, economic adviser to the Arbuthnot Banking Group, points out that peripheral eurozone economies have benefited from falling long-term interest rates, which is fuelling economic growth. Portugal is set to exit its bail-out in May and concern that Greece will need a third bail-out package is fading. Spain, Portugal, Ireland and Greece have improved their competitiveness in terms of their unit labour costs relative to Germany over the past four years, while France and Italy have not.
However, investor preference for peripheral Europe may also be part of the hunt for alternative risk assets as investors continue to shun emerging markets. Outflows may have slowed from emerging markets in March and early April after an improving performance from the MSCI Emerging Markets index over the month, but ETFs tracking broad emerging market indices still saw net outflows in Europe, with those focused on the Chinese equity market at the top of the monthly outflows list.
Emerging Market Outflows Seen Globally
A similar picture was seen globally among ETF investors. For example, in the US, outflows for emerging markets equity ETPs moderated as selling pressure eased, but showed no signs of reversing. Selling tapered towards the end of the month, according to BlackRock, on a combination of short covering and signs of new long positions.
ETFs offering exposure to China equities have experienced outflows of $1.67 billion globally in March alone, according to Morningstar data. The key driving factor was the mounting evidence of further slowdown in the world's second largest economy. This is unlikely to reverse in April, after China's economic data continued to disappoint, showing GDP growth of just 7.4% for March.
With the exception of the popularity of peripheral European equities, European passive-fund flows continue to suggest widespread risk aversion on the part of investors. In fact, March saw European investors channel a further EUR 1.9 billion into fixed income ETFs. Gold ETPs also showed signs of a renaissance. The price of gold is up around 7% for the year to date and Morningstar data showed European-domiciled gold ETPs attracting an estimated EUR 0.1 billion of net inflows in March.
Morningstar passive-fund analyst Jose Garcia Zarate contributed to this article.
