Decision Days for the Eurozone

January 11, 2015 Updated: January 12, 2015

Video Transcript

Jason Stipp: I’m Jason Stipp for Morningstar, and welcome to The Friday Five, Morningstar’s take on five stories in the market this week.

Joining me with The Friday Five is Morningstar markets editor Jeremy Glaser.

Jeremy, thanks for being here.

Jeremy Glaser: You’re welcome Jason.

Stipp: Up first this week: There has been a lot of anticipation in the market of when the ECB will act. It also seems like some folks in Washington are anticipating it.

Glaser: This has been one of the big open questions as we started 2015: When will the ECB initiate a quantitative easing program, and are they going to initiate one at all? Inflation data this week showed the problem isn’t going away on its own. Europe continues to deal with potential deflation with very slow-growing economy. Mario Draghi, the president of the ECB, is trying to build a consensus among members, some of whom are resistant to the idea of quantitative easing, that this is the right path for the eurozone to take.

The Federal Reserve, according to their minutes released this week, seems to think that A) it is the right path, and B) it’s one that the ECB is going to take. They mentioned that there was some concern among Federal Reserve members that Europe’s slow growth was going to hurt the United States, was a potential downside risk, but they said they weren’t that concerned about it. It wasn’t going to change their policy path, because they expect that the ECB is going to act and that would be enough to get them out of this deflationary spot.

It’s very unusual for one central bank to talk to another like that; usually they respect their autonomy very strictly. So I think the fact that this was in the minutes is a sign that they really do expect it to happen. I think the market is expecting it to happen, as well. If we don’t see action at this meeting at the end of January, we could see some ramifications in the stock market.

Stipp: Speaking of Europe, Greece was back in focus again this week, with concerns that it may be leaving the eurozone again.

Glaser: Greece was very much in focus in the market this week. I think the market is still looking forward to those elections that are happening later this month and the potential for a new government to come into power in Athens that is going to renegotiate the terms of the bailout or maybe end some of the austerity measures that are so deeply unpopular in Greece.

The question this week has been, what’s Germany’s response going to be to this? What’s the rest of the eurozone’s response going to be to these new demands indicating that Greece wants to renegotiate the terms of what the rest of the eurozone considers settled in terms of what the bailout looks like.

There has some chatter in the German press and elsewhere that potentially Germany feels like it’s OK if Greece were to leave, that the periphery of the Eurozone is in a better place than it was a few years ago, that the exposures to Greek debt are in places that they think could handle the potential of Greece leaving the eurozone. Maybe this isn’t the end-of-the-world, apocalyptic scenario that they saw a few years back, and they don’t have to bend over backward in order to satisfy these needs just to keep Greece in the eurozone.

This may have a kernel of truth to it. It is true that we are in a better place for a Greek exit now than we were a few years back, but it doesn’t mean it would be a totally painless process, and it doesn’t mean that we totally understand what the ramifications would be for the global financial system, given that we don’t really have a roadmap. We don’t really have a history of what happens when a giant currency union like this begins to break up.

I think this remains a low-probability event. I don’t think it’s something to lose sleep over. I think generally, as they have before, they will muddle through and find some solution that’s at least minimally acceptable to everyone, but it’s not something that’s going to go away anytime soon. I think until they really address all of the structural issues in the eurozone, it’s going to keep popping up if not every month, at least every couple of years.

Stipp: And against the backdrop of a slowing Europe, we’re seeing continued strength in the U.S. dollar, particularly as the euro is losing ground.

Glaser: The dollar does look stronger and has continued to strengthen, and we even saw this week some forecasts from some banks that it could hit parity with the euro–could be a one-to-one ratio–sometime in 2015. This is because the United States economy is looking better than Europe, that interest rates look a little bit stronger, that the Federal Reserve could be raising rates in 2015, which makes the dollar look even more attractive. At the same time Europe is potentially expanding their balance sheet, and Japan has a similar story, with the dollar rising against the yen as the Japanese Central Bank tries to debase their currency to make their exports more attractive.

This has a lot of implications, but a big one is for corporate earnings. If you’re making a lot of money outside of the U.S. and you translate that back to U.S. dollars, a stronger dollar could hurt your earnings, as those foreign earnings are buying fewer U.S. dollars, and I suspect that as we go into earnings season, we’re going to hear a lot from management teams that currencies are a big headwind to earnings; we’re going to see that in guidance and also in the actual results that are posted.

Investors should be cautious about these statements. A lot of times management teams are absolutely right that these currencies are true headwinds and are somewhat temporal; eventually they’ll reverse themselves. But make sure that it actually is the currency that’s the problem and not any underlying business issues with currency just being used as an excuse. It’s important to make sure that you understand that distinction.

Stipp: Data this week showed that auto sales finished 2014 on a high note.

Glaser: They did. In December, they were up 10.9%. Over the course of the year, they’re up 5.9% from 2013 levels. This has been a success story for a couple of years now, as autos have come back nearly from the dead–if you remember, the auto bailouts weren’t that long ago. As consumers feel more confident, as they have access to credit, as lower gas prices get people looking at bigger cars and more expensive cars, all of these factors have really helped the U.S. auto industry.

Now the stocks of Ford, GM, and Fiat Chrysler are not as cheap as they were. They were in 5-star territory for some time, but they’re trading in 4-star territory now. Ford actually felt confident enough to raise its dividend by 20% this week, and I think that’s another sign of strength here. So even if the stocks aren’t incredibly cheap, they’re still trading for less than the general market valuation. But keep in mind that these are no-moat stocks. These are relatively high uncertainty stocks, so they probably are not appropriate for everybody.

Stipp: And speaking of cars, Morningstar analyst Brian Colello is seeing the intersection of new technology and cars at CES this week. What are some of his takeaways?

Glaser: Brian says the emergence of microchips in cars is one of the big trends that he is seeing in the conference in Las Vegas this week. This is moving from a niche of high-end cars that had these very powerful entertainment systems or that had all of these powerful sensors, very much into the mainstream, as consumers are demanding these types of products in their cars. Brian sees this as good news for the analog chipmakers, for the microcontroller chipmakers, who are going to be able to provide these chips to the autos. This could be a key area of growth for them.

He doesn’t see a lot of investment opportunity right now, however. A lot of those names are fully priced or a little bit overpriced right now, so maybe not a ton of options for investors. But potentially, if there were to be a sell-off, if we were to see some opportunities open up, this could be a place in the technology sector that has exposure to a growing market and potentially has some good competitive advantages that would be a good watchlist candidate.

Stipp: Starting the year off with another great week of insights on The Friday Five. Jeremy, thanks for joining me.

Glaser: You’re welcome, Jason.

Stipp: For Morningstar, I’m Jason Stipp. Thanks for watching.