* ECB bets, geopolitics take place of fundamental analysis
* Stock correlation rises; futures drive market
* Stock pickers struggle as market swings in unison
* Macro funds deliver strong returns - Lipper
By Francesco Canepa
LONDON, Sept 4 The dreaded return of "risk on,
risk off" - investor shorthand for hard-to-analyse markets that
swing in tandem with big headlines - is frustrating European
stock pickers, who had hoping for a comeback after struggling
Frantic speculation about monetary policy in Europe and
geopolitical tensions from neighbouring Ukraine to the Middle
East have been dominating investor attention. That has left
traders poring over news reports and relegating fundamental
analysis to the sidelines.
Correlation between shares in the Euro STOXX 50 index has
surged to 67 percent currently from a seven-year low of 59
percent in late June. And two future contracts were traded on
the index for each of underlying share in August, up from around
parity in June and above the historical average, Thomson Reuters
Datastream data showed.
While the current environment is a far cry from the jittery
days of 2011 - when stock correlation was 80 percent and the
euro zone's very survival was in question - directional bets on
entire indexes are increasingly driving the market, causing
shares to move in tandem.
This has created choppy waters for investors who pick
individual companies at a time when they were expected to
benefit from a calmer global macro background.
The average long-only funds invested in continental European
equities returned a negative 1.2 percent over July and August.
They lagged even passive funds, which simply track the market
and were down 0.7 percent, Lipper data showed.
Long-short hedge funds, which can bet on declines in share
price, held up better, delivering a 2.2 percent positive return.
Macro funds outperformed, returning 4.1 percent.
"This is the toughest market I've been into," said stock
picker Can Elbi, portfolio manager of the Julius Baer Europe
Focus Fund. "Since the end of February there has been a barrage
of geopolitical tail risks that have come from nowhere. And that
just convolutes the whole analysis and creates a highly
correlated risk-on, risk-off environment that is not good for a
The worst performer in the Lipper poll of 144 long-only
equity funds was the Cavendish European A fund, which returned a
negative 6.6 percent over July and August. The fund's largest
holding at the end of June was the now collapsed Spanish
telecoms company Gowex, Thomson Reuters data showed.
Among the thriving macro funds, with the Opportunity MIDI
Performance fund returning around 20 percent over the same
Macro traders have been using DAX futures as a
liquid instrument to express their view on the Ukraine-Russia
crisis, because of Germany's perceived exposure to eastern
Europe and despite the fact that DAX companies only get 2.4
percent of their revenue in the region, according to Datastream
The futures-to-cash volume ratio on the DAX shot up to 1.4
times, compared with a long-term average of 1 once futures
expiries are excluded, as the index swayed between an all
time-high and a 10-month low.
The Euro STOXX 50 also fell 10 percent between late June and
mid August, weighed down by poor economic data. It has since
recouped most of those losses as markets came to expect fresh
ECB steps to stimulate the economy.
Those bets were partly rewarded on Thursday, when the ECB
cut interest rates to a record low and introduced a new scheme
to push money into the flagging euro zone economy, although it
stopped short of a full-scale quantitative easing plan.
The market's fixation with central bank policy means the
potential for fresh bumps along the road is high if the current
bets on quantitative easing by the ECB are frustrated while the
Federal Reserve sticks to its plan of gradually tightening
"We expect increased volatility in markets as investors
attempt to front-run the central banks' eventual decision on
rates," said Oliver Wallin, director of fund manager Octopus
"If the central banks' forward guidance policy was working
properly, this volatility should be managed, but we suspect
there is plenty of room for error in managing the communications
between the bank and the market."
To adapt to this market environment, Stanhope Capital has
increased its allocation to equity fund managers who adopt a
macro overlay in their analysis and can bet share prices will
"For European equities the key catalyst has got to be the
risk of deflation and how the authorities respond to that,"
Jonathan Bell, chief investment officer at Stanhope Capital,
which oversees approximately $8.5 billion on behalf of wealthy
"Until we get a real feel for what the ECB is prepared to
do, it's going to be very difficult to make any headway unless
you get a return to growth and I don't see it at the moment."
(Reporting By Francesco Canepa; Editing by Larry King)