It’s not a sweet 16th birthday for the euro as the currency continues to face headwinds. A slew of incidents — including Greece’s anti-austerity party winning general elections, the European Central Bank’s (ECB) aggressive stimulus measures and the Swiss National Bank’s (SNB) surprise decision to drop its long-standing exchange rate of the Swiss franc against the euro — have dragged the currency lower.
The euro hit an 11-year low against the dollar before recovering on Monday after Greece’s anti-austerity party, Syriza, won the election. The euro dropped to $1.1098, its lowest level since Sep 2003. However, the currency rebounded to pre-election levels on Monday. Nevertheless, the currency has depreciated 7.8% against the dollar since the beginning of this year.
Greece’s Anti-Austerity Party Sweeps Election
A possible standoff between the new radical leftwing government in Greece and the European Union dragged the euro down. Leftist leader Alexis Tsipras had opposed the bailout conditions imposed by the European Union and the International Monetary Fund. Alexis Tsipras wants to renegotiate the 240 billion euro bailout debt. His decision to renegotiate with other Eurozone governments raised speculation that Greece could do away with euro and leave the European Union.
Meanwhile, Euro finance chief Jeroen Dijsselbloem warned Greece: “The most important thing is that if you remain in the Eurozone you stick to the rules we have. That’s true for all countries.” He added: “There has been a lot of easing of the debt already. In the coming years the interest for Greece will be very low. They get a lot of time to pay back loans so the question is whether more has to be done there.” The Eurozone’s biggest economy, Germany, also wanted Greece to respect the terms and conditions of its 240 billion euro bailout.
ECB Stimulus Measures
The euro has already been under pressure following the ECB’s announcement of implementing aggressive quantitative easing. The ECB unveiled a large-scale asset-purchasing program to boost Eurozone’s fragile economy. Last week, the euro fell more than 3% against the greenback.
The ECB announced a quantitative easing program worth about 1.1 trillion euro to address the risks of deflation in Eurozone. ECB President Mario Draghi had said the bank will buy 60 billion euros a month in assets — including both government and private sector bonds, and securities issued by European organizations. The bond-buying program will begin in March and is expected to continue at least until Sep 2016.
Draghi said the asset purchasing program could extend further provided ECB fails to meet its inflation target of just below 2%. Eurozone had moved closer to deflation after consumer prices dropped 0.2% annually in December.
ECB’s stimulus measures have boosted the euro in the past. However, in this case the euro remained weak as the bond-buying program is open-ended as it is subject to inflation failing to achieve its target rate by Sept 2016. This may lead to bond-buying of more than 1.1 trillion euros.
Swiss National Bank’s Surprise Decision
The Swiss National Bank's (SNB) decision to do away with its long-standing resolution of fixing the exchange rate of the Swiss franc against the euro had a negative impact. The SNB decided to remove its three-year-old policy of maintaining minimum exchange rate of 1.20 Swiss francs to 1 euro. The Swiss franc was facing huge pressure due to this minimum exchange rate policy as the euro was becoming weaker against major currencies due to sluggish economic conditions in the Eurozone.
Meanwhile, sentiments in the options market regarding euro are bearish as evident from the following chart:
Source: FOREX.com
In the diagram, a rise in implied volatility (blue line) along with bearish risk reversal (red line) suggests that traders have taken a view that the euro will fall further. According to the thumb rule, implied volatility increases when the market is bearish, and vice versa. Similarly, a negative risk reversal means that more market participants are putting their bets on a fall in currency rather than rise in it.
Further, analysts predict that there could be further weakness and wild swings. Goldman Sachs (GS) forecasted that the euro will reach parity with the dollar by Jan 2017. It is expected to further fall to 90 cents by Jan 2018. Goldman Sachs predicts the dollar will show strength as the U.S. economy continues to expand ahead of the impending hike in key interest rates by the Federal Reserve.
Given this weakness in the euro and the strength in the dollar; it will be a prudent idea to stay away from U.S. companies having high exposure in European markets. Possible currency fluctuations between the two currencies may hamper their earnings results and guidance for this year. Below we present some of the biggest S&P 500 companies by market capitalization that draw a minimum 20% of its sales from overseas regions, including Europe.
3 Stocks to Dump
Philip Morris International, Inc. (PM) manufactures and sells cigarettes and other tobacco products. The company owns various cigarette brands throughout the world. Notable European brands are Diana, f6, Assos and Petra. The company was incorporated in 1987 and is headquartered in New York.
In the past two months, the Zacks Consensus Estimate for the current year was revised slightly lower for the company. This year’s expected earnings growth rate for this Zacks Rank #5 (Strong Sell) stock is a negative 6.3%, in contrast to the industry growth rate of 0.3%. The stock plunged 0.4% in the last four weeks. Also, it has a Zacks Industry Rank in the bottom 34%.
The Coca-Cola Company (KO) manufactures and distributes soft drinks worldwide. The company was founded in 1886 and is headquartered in Atlanta, Georgia.
Over the past two months, the Zacks Consensus Estimate for the current year was revised almost 1% lower for this Zacks Rank #4 (Sell) company. Further, it has a Zacks Industry Rank in the bottom 30%.
Abbott Laboratories (ABT) manufactures and sells health care products worldwide. The company was founded in 1888 and is headquartered in Abbott Park, Illinois.
This Zacks Rank #4 (Sell) stock is part of an industry which is expected to grow at a negative rate of 8.8% this year. The stock dropped 3.7% in the last four weeks. It has a Zacks Industry Rank in the bottom 17%.
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