European funds rise as the dollar droops

With the U.S. dollar surrendering value to the euro, stateside investors are left with two choices. They can whine about the rising costs of European vacations. Or they can ride with the rising euro by investing in mutual funds that buy European stocks and bonds.

Last year, many went for the latter choice. They poured money into Western European stock funds and enjoyed average annual returns of 37.6 percent, compared with a 32.5 percent annual total return for the average U.S. stock fund last year, according to Lipper Inc.


Gauging the outlook. Many analysts expect an encore this year. The United States remains committed to a weak-dollar policy. So even if European stock markets post lackluster gains this year, stateside mutual funds investing in Europe should put up higher-than-average returns if the euro continues to strengthen against the dollar, several analysts say.

European stocks also appear cheaper on a price-to-earnings basis than do stocks in the United States. The economies in Europe, sluggish last year, also look poised to hitch a ride on the faster-than-expected growth of the U.S. economy during the second half of last year.


A word about risks. Investors should not be automatically lured by rosy forecasts. The soothsayers could turn out to be wrong.

European economies could fail to awaken from their 21st-century slumber. Rising commodity prices could trigger inflation and higher interest rates -- and lower stock prices -- around the world. The dollar, after a steady slide dating to April 2002, could perk up again and depress the value of mutual fund investments denominated largely in euros or British pounds.

A global opportunity. Despite these and other risks of venturing abroad, several observers say it's worth a shot. "We are reducing our exposure to U.S. stocks and placing additional weight on European shares," said Paul Mazzilli, an analyst who follows exchange-traded-funds, ETFs, at Morgan Stanley. ETFs are fixed-portfolio mutual funds that trade like stocks.

The recent attraction to Europe rests largely on forecasts about sustained weakness in the U.S. dollar.

At the beginning of last year, the euro equaled $1.05. At the end of the year, it equaled $1.26.

The 20 percent decline of the dollar against the euro boosted otherwise lackluster returns on European bourses last year.

Only the German DAX, the widely followed index traded on the Frankfurt Stock Exchange, was up more than 20 percent last year, and it is up about 27 percent for the year.

Markets in Paris, London, Milan, Italy, and Zurich, Switzerland, eked out returns in the high single digits or low double digits last year. Yet sleepy returns on European markets mattered little, as the stumbling dollar fueled the total returns of portfolios pegged to Europe's major currency last year.


And, with an economic recovery ostensibly under way in the United States, Europe is likely to follow. This recovery could accelerate Europe's corporate profits and further fuel global demand for European stocks, said Ray Mills, manager of the T. Rowe Price International Growth & Income Fund.

Matthew Lubanko is a financial columnist for The Hartford Courant, a Tribune Publishing newspaper.