Stansberry Research

Wednesday Morning Market Comments

C. Scott GarlissStansberry NewsWire

Morning Market Commentary:

  • German Consumer Price Index figures for December were weaker than anticipated.
  • Spanish price data also showed that inflation pressures are easing.
  • This points to a potential slowdown in European inflation when numbers are released on Friday.

Recent data from Europe shows that inflation is cooling...

This could foreshadow the European Central Bank ("ECB") cutting back on its aggressive rate-hike plans.

In November, eurozone inflation came in at 10% on a year-over-year basis. That's just below the all-time high of 10.7% set in October. And ECB policymakers have warned they must see a more rapid decline in prices toward their 2% target. Otherwise, they may get even more aggressive with interest-rate hikes.

In fact, Governing Council member Klaas Knot said the ECB is only halfway done with rate hikes... and it will continue raising interest rates in half-point increments before reaching peak yields in mid-summer. To put that into perspective, the ECB has raised its benchmark deposit facility rate by 2.5% since July. This brought interest rates back up to 2% and ended an eight-year experiment with negative yields.

But the rate hikes are killing regional economic growth. Third-quarter gross domestic product only expanded a paltry 0.3%. That's the worst number since the first quarter of 2021 when the region was dealing with a new wave of COVID-19 infections. So, if something doesn't change soon, the rate-hike outlook could grow even worse.

However, recent data point toward additional downside in price growth. And that should support a rally in European stocks...

Yesterday, Germany's Federal Statistical Office released its preliminary Consumer Price Index ("CPI") figures for December. Year over year, the number rose 8.6%, which was lower than the expectation for a 9% increase and November's 10% gain...

This marked the lowest reading since the 7.9% jump reported in August, and it was the second straight contraction on a month-over-month basis. Even more, price growth for goods slowed to 13.9% compared with the 17%-plus growth experienced in the prior three months.

The Statistical Office said that government assistance on energy bills helped to drive the cost savings in December. Energy prices grew 24.4% for the month compared with the recent peak of 43.9% in September. At the same time, food costs were up 20.7% compared with the 21.1% growth seen in November.

This is important for the regional outlook. You see, Germany makes up about 30% of eurozone economic output. As Germany's economy fares, so does the rest of Europe. Take a look at the following chart of the German CPI compared with the broader eurozone...

As we can see in the chart above, price growth for the region and its biggest economy tend to track each other closely. The European Union's statistical office, Eurostat, is scheduled to release its CPI figures on Friday. Based on yesterday’s numbers, it's likely that regional price growth could come in below estimates, which are currently for 9.5%.

But it's not just Germany that's seeing inflation ease...

Late last week, Spain's Statistical Office released preliminary CPI figures for December. The CPI grew 5.8% compared to the 6.1% expectation and November's 6.8% increase. This was the lowest rate of price growth since the 5.5% expansion seen in November 2021...

According to the Spanish government, the largest driver for the slowdown in price growth was energy costs. It said electricity prices rose less than they did a year ago, while those for fuel contracted. At the same time, prices for footwear and clothing fell, though not as quickly as they did a year ago.

Spain is the region's fourth-largest economy, making up roughly 10% of eurozone economic output. So, let's observe the eurozone CPI compared with that of Spain...

Much like the chart comparing Germany's CPI with the eurozone's, Spain's CPI tends to follow the same direction as the regional numbers, though not as closely. However, they do appear to be a leading indicator and point to more downside ahead.

As we noticed in both sets of numbers above, the most important factor for consumer costs has been energy prices...

For years, Russia has been the primary provider of natural gas to Europe – and, in particular, Germany. So when Moscow made the decision to invade Ukraine last February, and European countries disapproved, benchmark Dutch Title Transfer Facility ("TTF") energy prices shot up 195% from 72 euros per megawatt-hour ("MWh") to 212 euros per MWh.

The situation grew even worse this summer. Russia decided to reduce the flow of energy supplies to Europe in response to its decision to enact a boycott in December. At the same time, European Union member countries were scrambling to fill up their energy storage and ensure power production ahead of the winter. They were forced to turn to the open market and secure supplies.

Dutch TTF prices rose even further, increasing 332% from pre-invasion levels to 311 euros per MWh...

However, EU members were successful in finding ample supplies. In fact, energy storage hit the highest level on record ahead of the winter. By looking at the chart above, we can see the story about Europe finding adequate energy supplies began leaking out in late August.

But that's not all... According to Bloomberg, Germany's current gas storage level sits at 90% – well above the average of 73% for this time of year. And European storage levels are at 84% across the board compared to just 52% last year, according to the New York Times.

In addition, Germany has been able to generate record amounts of wind energy. And Europe has experienced milder winter temperatures.

So, while inflation is still high, this development is encouraging for ECB policymakers. If this trend continues, it could begin to take pressure off the central bank to aggressively raise interest rates. And as prices stabilize, households will feel less worried about how far their future earnings will go. That means they will save less and start spending more, which will boost regional economic output.

And as consumer confidence begins to grow, European investors will want to put some of that extra money back to work in the markets...

One of the best ways to do so is through the SPDR EURO STOXX 50 Fund (FEZ). FEZ tracks the performance of the blue-chip EURO STOXX 50 Index. Its top holdings include Dutch semiconductor-equipment manufacturer ASML (ASML) and luxury-goods maker LVMH Moët Hennessey Louis Vuitton (LVMHF). It offers a solid dividend yield of just over 3% compared to the S&P 500 Index’s 1.7%.

And, with FEZ’s forward 12-month price-to-earnings multiple of 11.6 times compared with the S&P 500’s 16.9 times, it offers more compelling upside potential for when the European consumer and economy rebound.