ECB QE is uneven, but a corporate bond buying program favoring the largest corporations may not discriminate across geographic lines. 

Quantitative easing in Europe has gotten off to a decent start, providing some support to stocks and economic sentiment in the region, Capital Economics noted. The problem, however, is that QE purchases have been uneven, structural reforms are unlikely to deliver an immediate boost to the economy and perhaps most significant “the euro-zone’s growth prospects remain dim,” analyst Jack Allen concluded. The report comes as Capital Economics has previously predicted that ECB bond purchases along will not be enough.

Chart: Capital Economics

ECB QE is uneven: In face of headwinds such as Brexit, stocks have been strong as corporate bond buying approaches

The announcement of European quantitative easing last year bolstered European equity prices, said the June 6 Capital Economics report titled “QE expansion uneven across euro-zone.” Stocks could be benefiting from a number of reasons, including the fact corporate bond buying is set to begin Wednesday.

Looking back at the recent correlation history of ECB QE and stock prices, the gains from when the program extension was initially announced at the start of 2015 were initially short lived. However, as concerns regarding deflation and the global economy mounted during late 2015 and early 2016 with concern focused on financials.

“At the start of this year, equity prices and economic confidence fell, partly due to worries about banks,” Allen noted.

This dampener on the party was short-lived. As the S&P 500 is currently on a trend continuation pattern higher and Janet Yellen has indicated she will not trigger the counter-trend to withdraw stimulus in June at least, stocks in Europe have been reasonably strong recently. In fact, Capital economics notes QE purchases have correlated with a modest rebound. On May 19, for instance, the FTSE 100 was trading at 6053. In the face of Brexit headwinds, that index stands higher today at 6282 during the early hours in New York. The core country German DAX found a near term bottom on April 7 at 9530 and is today trading at higher at 10,269.

But is the uptick in major European stock indexes masking the issues in those smaller countries almost out of mainstream economic view?

ECB QE is uneven: Periphery EU countries not benefiting to the same degree as the core

It has been the larger and more prosperous European Union members who have been benefiting most, the report noted. In part this can be seen in the execution of the bond purchase program. Government bond purchases in Germany and France have benefited more than that in smaller countries such as Ireland and Portugal, as an example. “The effects of QE may have been felt most strongly in the core countries,” Allen observed.

Why is this?

Allen speculates that the European Central Bank has a large stockpile of Irish and Portuguese bonds, more so than is allowed under the Securities Market Programme. It could be the ECB cannot increase periphery bond purchases without violating regional bond-holding restrictions.

Another problem could be the regional banks – particularly those in the periphery. They appear not to have have faith in their own economies.

Capital Economics noted that periphery banks have used some of the proceeds allocated to them not to purchase bonds from their own sovereign region, but rather from the core countries. The result of this activity can be seen in peripheral bond spreads post asset purchases, which began in March last year and since they were expanded in April this year. Since last March, Capital Economics notes, equities in Germany and France have outperformed those in periphery Italy and Spain, for instance.

Stock market performance has been boosted in the core countries in part by periphery banks buying core sovereign bonds. In a world of negatively yielding bonds brought on in large part by quantitative stimulus measures of the ECB, there remains other sources of yield that the central banks can still repress, however: corporate bonds. And in this regard that plan is underway.

ECB QE is uneven: Get ready for yield repression in large corporate bonds

It is too early to judge the total effectiveness of the ECB’s quantitative easing program. While sovereign bond purchasing programs have led to an initial uneven distribution of capital allocation, this is still the early innings in a long game. There is more ECB stimulation in the pipeline, and this time it is aiming to benefit large corporate players and may not result in the same lopsided regional allocation distribution.

The primary program on the near-term horizon is the corporate sector purchase programme (CSPP), which begins Wednesday. The CSPP boosts assets available to bankers by adding corporate bonds to the menu, with the lower risk large corporations assumed to be the main beneficiary. Add to this additional dry powder in terms of targeted longer-term refinancing operations (TLTRO) which are ramping up, and one might think there could be a bang this summer. It is unclear at this point if that bank will be the bursting of a quantitatively engineered bubble or of artificial stimulative measures benefiting high end assets actually growing the real economy.

With the economic pedal to the metal, ECB President Mario Draghi has pushed national policymakers toshoulder some of the economic burden with fiscal policy, government spending, not just central bank monetary policy accommodation. Without a coordinated effort, policy success can be limited, which is where Capital Economics thinks things are headed.

“With fiscal policy set to remain fairly restrictive, and structural reforms unlikely to provide an immediate boost to the economy, the euro-zone’s growth prospects remain dim,” Allen concluded.