The SPDR Euro Stoxx 50 (NYSEARCA: FEZ) is an exchange-traded fund (ETF) that tracks the Euro Stoxx 50 Index. This index is composed of the 50 largest stocks in Europe. The purpose of this index is to track the performance of the European economy. Thus, FEZ is designed to give investors exposure to the European economy with low costs and diversification. European stocks have been quite volatile due to the European Union's flirtation with negative growth and deflation as well as concerns of the viability of the euro.
The Euro Stoxx 50 is weighted by market capitalization so larger companies have a bigger influence on the index. FEZ has companies that are headquartered in all the major European countries; they are multinational, so they have diversified revenue streams from all over the world. Due to recent strength in health care stocks, this has become the largest component of the index. The Euro Stoxx 50 is owned and managed by the Deutsche Borse Group, which makes adjustments to reflect shifts in the European economy.
How It Tracks It
Stocks constitute 98.4% of FEZ's holdings, and the rest is in cash. These holdings are distributed among the largest European stocks based on their weighting in the Euro Stoxx 50 Index. The top five holdings are Sanofi, Bayer AG, Total SA, Banco Santander SA and Anheuser-Busch Inbev. FEZ is a passive product; there is no active management.
This makes it very effective in tracking the underlying index. Changes in holdings are only made if there are changes in the Euro Stoxx 50 Index. Therefore, investors in FEZ do not have to worry about slippage or other factors that tend to cause tracking deviations between ETFs and the underlying index.
The one source of deviation in performance between FEZ and the Euro Stoxx 50 is due to the currency difference. FEZ is priced in dollars, whereas the Euro Stoxx 50 is priced in euros. U.S. investors of FEZ need to be aware that they are investing in euro-denominated assets.
Weakness in the euro can lead to underperformance between the Euro Stoxx 50 and FEZ. If the Euro Stoxx 50 rises 15% but the euro declines 5% against the U.S. dollar, for example, then FEZ would be up 10%. Investors who want to avoid this issue should consider currency-weighted ETFs.
Management
FEZ is issued by State Street Global Advisors. State Street is one of the largest providers of low-cost diversified ETFs that passively track index funds. This ETF is part of State Street's offering of low-cost index funds that track international indexes. These products give investors an opportunity to have exposure to different parts of the global economy.
Characteristics
The annual expense ratio for FEZ is 0.29%. This expense ratio is in line with other passive products that track international shares. It is well below actively managed products, which tend to have expense ratios three to five times higher. FEZ trades on the New York Stock Exchange, like all State Street ETFs.
It has a price-to-earnings (P/E) ratio of 15.7 as of August 2015, which is just above its long-term average near 13. Some reasons for this elevated ratio are the European Central Bank's 0% interest rate policy and expectations of improvement in European economies. Other valuation measures for FEZ are slightly above average, but they are far from overvalued territory.
Suitability and Recommendations
FEZ is suitable for value investors. It is composed of high-quality companies that have established moats. Many are in strong positions, having survived the Great Recession in 2007-2008 and the European Union's flirtation with deflation and political instability from 2012 to 2014. Value investors profit from buying strong companies that have encountered tough times, which lead to a disconnect between the value of the business and the market price. Such opportunities are present in Europe due to the macro conditions.
Of course, investors in FEZ need to consider the currency risk and the political risk. The EU continues to be a turbulent experiment in democracy. Coordination between nations with different cultures, languages and values has proven to be quite challenging. There is a serious fissure between Northern European countries preaching austerity and Southern European countries that are in favor of more aggressive fiscal and monetary policy.
Additionally, there are serious demographic issues in these countries, as the population is rapidly aging. Compounding these problems is a large welfare state, which increases the burden on workers. At some point, serious reforms will be needed to avoid default. However, these serious reforms will entail significant short-term pain. Of course, these risks create opportunity for savvy investors.
Thus, FEZ is suitable for investors who believe that these difficulties have already been priced into European stocks. Additionally, long-term gains require the European Union to navigate these circumstances, balancing competing interests between stakeholders and long-term and short-term priorities.
How Financial Adviser Clients Could Use This ETF
FEZ gives financial advisers and their clients exposure to the largest economic bloc on the planet. Its composition of large-cap, high-quality companies makes it well-suited to withstand any short-term distress. If the euro rises along with European stocks, then FEZ could sport particularly strong gains. From a valuation perspective, FEZ is much more reasonably valued than large-cap shares in the U.S. or Asia.
The European Central Bank is embarking on aggressive monetary policy, just like the Federal Reserve did in 2008. This led to a huge bull market in the U.S. in which share prices more than tripled in six years. Large-cap shares were the biggest beneficiaries; they were able to raise money at cheap rates and buy back shares. The components of FEZ will similarly benefit from the ECB's aggressive policy.
Main Competitors and Alternatives
Some competing ETFs with FEZ are the SPDR Euro Stoxx 50 Currency Hedged ETF, the SPDR Euro Stoxx 50 Small Cap ETF, the FTSE Europe ETF and the iShares MSCI EMU ETF. All of these ETFs track various European indexes. Other than the currency-hedged SPDR Euro Stoxx 50 ETF, they all entail currency risk.
The primary differentiation between FEZ and these products is that FEZ is exclusively composed of large-cap stocks, which makes it most able to withstand any sort of economic weakness. In fact, these companies can come out of such circumstances with greater market share, richer margins and higher borrowing costs due to competitors going out of business.
