Europe Outside the Eurozone – The UK

January 13, 2015

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While the market is focusing on the prospects for full-scale quantitative easing in the Eurozone and the continued decline of the euro, there are major European equity markets that do not have the euro as their currency and whose monetary policy is independent of the European Central Bank. The foremost of these is the UK equity market, which is the largest in Europe, with only those of Japan and the USA being larger among the advanced-economy markets.

The UK economy last year grew at an estimated 3 percent pace, far faster than the Eurozone’s 0.9 percent rate and, outside the zone, Sweden’s 1.8 percent advance and Switzerland’s 1.9 percent growth. UK equities did not reflect this economic outperformance. According to total returns calculations by Credit Suisse, the local currency return for UK equities in 2014 was 1 percent, compared with 14 percent for Swedish equities, 13 percent for Swiss equities, and 3 percent for German, French, and Italian equities. US dollar-based investors saw returns some 5 percent less as a result of the strengthening of the US dollar versus the pound sterling. Will that underperformance continue for UK equities in 2015?

The headwinds that affected UK equities in the second half of 2014 after their peak in late June are still present at the start of 2015. Foremost were concerns about the economic slowdown in the European Union, which accounts for 48.5 percent of the UK’s exports. Those concerns remain for investors, with fears about Greece being foremost at present. The latest Eurozone Manufacturing Purchasing Managers’ Index showed manufacturing remaining stagnant at year-end. Service sector growth also remained subdued. However, we have a positive view of the prospects for the Eurozone economy this year, with the pace increasing each quarter and reaching 2 percent by the fourth quarter, a rate that is double the estimated trend rate of slightly below 1 percent. This, together with strong growth in the US economy, the UK’s second most important export market, should permit UK exports to grow by over 3 percent, in contrast to last year’s 1.5 percent decline.

Another concern has been the steep drop in the oil price and its possible effects on the UK, which is an oil exporter. While there will certainly be negative effects on the energy sector, which has a weight of 15 percent in the broad-based iShares MSCI United Kingdom ETF, EWU, these will be heavily outweighed by the positive effects of lower oil prices–reducing production costs across a number of sectors and boosting household spending power. These positive effects will also be important in the UK’s export markets.


The too-close-to-call general election scheduled for May 7 may well lead to market volatility in the coming months. This possibility presents a near-term political risk to both equity markets and sterling. However, the risk is limited that the Bank of England (BOE) will move to raise interest rates earlier than the markets expect. The BOE, apparently satisfied with the current stance of monetary policy, took no action at its meeting last week and decided that publishing a formal statement at this time was not warranted. Low inflation in the UK, even though caused in part by the external factor of oil price declines, will make it difficult for the BOE to raise interest rates for some time, perhaps not until next year. That will likely be later than the Fed moves in the US. This likelihood suggests that some further easing of sterling versus the US dollar lies ahead, which would cut into US dollar returns from UK investments unless hedged.


The ideas and opinions expressed in this blog are those of the author, and they should not be perceived as investment advice or as any other kind of advice.

The preceding is an abridged commentary by Cumberland Advisors and has been reposted with permission. Cumberland Advisors commentaries are available at

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