An extraordinary move by the European Central Bank

On June 5, the European Central Bank (ECB) announced a package of stimulus measures, among which is the intention to begin charging interest on deposits held at the bank. Although a negative interest-rate policy has been tried before in countries such as Denmark and Sweden (with various results), the policy has never been tried on such a large scale for a region such as the euro zone. We believe this was bound to happen, due to low and still-declining inflation readings within the currency bloc.

In addition to rate reductions, the ECB said it would (1) keep borrowing rates near zero for the foreseeable future, and (2) extend its longer-term financing efforts, offering four-year loans to banks under the condition that the funds are made available to small businesses.

Generally speaking, we believe securities markets would have reacted negatively if the ECB had done anything less dramatic. Among our other views:

  • These moves are intended to persuade banks to stop holding on to money and to lend more to businesses to improve growth within the euro zone. In addition, the euro may weaken, which should help exports become more competitive.

  • This policy should help lessen the risk investors have long associated with the euro zone. To be sure, the ECB has additional levers to pull should conditions call for further action. Outright purchases of sovereign bonds, for example, might become an option.

At the portfolio level, we believe valuations in Europe remain favorable on a relative basis and think that the region continues to offer a lot of potential in terms of investment possibilities. At this writing, the holdings within the portfolios we oversee are trading at a discount to the various markets in which we invest.

The views expressed represent the Manager's assessment of the market environment as of June 2014, and should not be considered a recommendation to buy, hold, or sell any security, and should not be relied on as research or investment advice. Views are subject to change without notice and may not reflect the Manager's views.

International investments entail risks not ordinarily associated with U.S. investments including fluctuation in currency values, differences in accounting principles, or economic or political instability in other nations.

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Notes from the desk