A big investment firm has made waves with a titanic bet against European stocks. It’s worth examining the crosscurrents around the wager, why it might founder, and why it may not be what it seems.
Bridgewater Associates, the world’s largest hedge fund, has ramped up its short positions in European equities in recent weeks, bringing their total value to an estimated $22 billion. The Westport, Conn., company, founded by Ray Dalio, has shorted companies that range from German industrial conglomerate Siemens SIE, -0.02% and auto maker Daimler DAI, -2.36% to French oil giant Total FP, +0.49% and Italian bank Intesa Sanpaolo ISP, -0.16% .
European regulations require disclosure of short positions. A Bridgewater spokesman declined to comment.
Analysts have pointed out that Bridgewater isn’t known for stock picking, but rather for riding macroeconomic trends. They have stressed that the short comes ahead of Italy’s closely watched March 4 election. The vote has led to warnings that a strong showing by populist parties could limit economic reforms and undermine the euro zone’s recovery.
Still, it’s unlikely that Bridgewater is wagering on a post-election stock selloff, says Kevin Muir, a former RBC trader who runs a popular blog that analyzes macroeconomic bets called The Macro Tourist. Other Italian names that the hedge fund has shorted include utility company Enel ENEL, -0.06% and energy firm ENI ENI, +0.39% .
“If we did have an Italian surprise, it would follow the Brexit model, to a certain degree,” Muir tells Barron’s. He’s referring to how the United Kingdom’s June 2016 vote to exit the European Union whacked the pound, which ultimately triggered a rally for British blue-chip stocks that generate most of their revenue in other currencies.
“Shorting the currency would be a much better trade than shorting the stocks,” Muir says.
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A likelier explanation for Bridgewater’s big bet is that it sees tougher times ahead for China, and recognizes that European companies, such as car makers, are increasingly tied to Chinese consumers, says Muir. “If you thought China was about to slow down, shorting European equities would be one way to express that view.”
Another possibility: Bridgewater isn’t necessarily short European stocks overall. One Bridgewater fund reportedly still had a slightly net-long stance in early February, but it had slashed its long exposure this year. Disclosure rules are “not uniform across all products,” Muir says, leaving investors in the dark.
“They might be long Euro Stoxx 50 SX5E, +0.57% swaps, or some sort of synthetic derivative, and they’re trying to unwind part of it, and instead of just unwinding the whole thing, they’re shorting certain stocks,” he adds. “It’s always dangerous to look at what a hedge fund is doing and think it means so much,” given that “we don’t know what they have on the other side.”
Dalio himself offered a similar warning on Wednesday at a Harvard Kennedy School event. “Don’t read anything into that. You’ll probably be misled,” he reportedly said, referring to the firm’s short. Bridgewater manages around $160 billion in investor money.
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A bet against Old World stocks might also run up against a fresh European Central Bank push to print money to buy assets, known as quantitative easing, says Muir, who himself holds long positions in Euro Stoxx 50 calls. The ECB halved its monthly bond-buying program in January, but has said it could boost the program’s size if the inflation outlook deteriorates. Most analysts have focused on how the ECB soon might offer more hawkish guidance, but Muir isn’t forgetting its dovish tendencies. “I would be wary of shorting stocks based on any sort of problems in Europe, because I think any problems will be met with more printing, and ultimately that will cause stocks to head the other way,” he says.
Bridgewater’s short fits with the latest commentaries from its top brass. They’ve generally sounded more downbeat in February, after Dalio’s bullish January prediction that investors parked in cash would “feel pretty stupid.” Following this month’s global selloff, his co-chief investment officer Bob Prince said “a much bigger shakeout” looked likely, while Dalio said the economic cycle is “a bit ahead of where I thought it was.” Dalio also said he sees a “maybe 70%” chance of a U.S. recession before the 2020 presidential election.
Another investing heavyweight has also become less upbeat on European equities. BlackRock, the world’s largest asset manager with $6 trillion in investor money, downgraded euro stocks VGK, +0.72% to neutral from overweight. “We see solid European equity returns ahead, but lower earnings growth relative to other regions limits European stocks’ SXXP, +0.50% potential to outperform in the short term,” wrote Richard Turnill, BlackRock’s global chief investment strategist, in a note.
This report first appeared at Barrons.com on Feb. 24, 2018.