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Europe Made Easy

A new series of European indices could make playing Europe a snap.

By Robert Hunter

Hedging exposures in Western Europe has always been logistically difficult—the 16 biggest markets have 16 currencies, speak 12 languages and trade on countless exchanges with less-than-stellar liquidity. The advent of the euro next January will clear up some of these headaches, and a joint venture between Dow Jones and three European exchanges hopes to do away with the rest even sooner.

On January 26, Dow Jones, the Paris Bourse, the Deutsche Borse and the Swiss Exchange unveiled the fruits of their new partnership, STOXX Limited, when they introduced the family of equity indices known as STOXX. Of the more than 180 indices in all, four stand out as especially important—the Dow Jones STOXX, which covers Western Europe as a whole by including 665 companies; Dow Jones Euro STOXX, which includes 326 companies in the countries expected to join European monetary union from its inception; and two blue chip indices, the Dow Jones STOXX 50 for Western Europe as a whole, and the Dow Jones Euro STOXX for prospective EMU members. In addition, there are 19 industry sectors covered, both for Western Europe as a whole and for EMU member countries.

Most important for derivatives players, STOXX Limited plans to allow exchange-traded futures and options on the STOXX products by summer, making European hedging easier than ever. Because the Western European market is similar in size to that of the United States, STOXX is hoping that its family of indices will eventually produce futures and options liquidity like that of the Standard & Poor's 500 and 100 indices and the Dow Jones Industrial Average in the United States. "Because we are at the forefront of major changes in Europe,” says Michael Staheli, member of the management board of the customer relations and marketing division at the Swiss Exchange, "and with the growing attention of U.S. investors on foreign markets, STOXX will present a new way of investing and hedging in Europe.”

While STOXX has not publicly named the exchange that will carry STOXX products, all indications are that Eurex, a new partnership between the Deutsche Terminborse, the Swiss Exchange and, eventually, the French Bourse, will win the coveted rights. "It would be a natural choice to pick Eurex as a platform for at least some of the products,” says Gunter Femers, deputy managing director at the Deutsche Borse. And Jacque Werren, deputy managing Director at the MATIF, is even more forthright: "Eurex and the French Bourse will make use of these new index families to launch derivative products. It's not the unique goal of the alliance of the Eurex and the French Bourse, but it's one of the concrete results of it.”

Investors should be particularly attracted to the broad-based indices because they cover 80 percent of the market capitalization of the countries involved and offer high historical correlation with the European markets as a whole. "I can imagine that Merrill Lynch, which already has a product called the Dogs of the Dow, would do a similar product with the dogs of the Euro STOXX,” says Werren. "And there are multiple other uses—open-end funds, closed-end funds, over-the-counter warrants, options and so on. Everything is conceivable.”

Already 12 major dealers—including Merrill Lynch, Societe Generale, Deutsche Bank and Dresdner Bank—have begun trading over-the-counter products based on the STOXX. The American Stock Exchange, moreover, has initiated informal discussions with STOXX Limited about creating unit trust products on the STOXX family similar to its Spiders and Diamonds products, which offer investors exposure to the entire market with lower costs and better liquidity than traditional index-based mutual funds. And the 19 sector indices appear to be ripe for sector index options similar to those offered at the AMEX, the Chicago Board Options Exchange and the Philadelphia Stock Exchange.

STOXX Limited believes its partnership will serve investors well in the long run. "The idea of calculating a European index was not new,” says Femers. "Everyone could sense that there was a need for it. Each partner of STOXX Limited would have been capable enough to do it on its own. But if we had not teamed up, we probably would have flooded the market with a multitude of indices very similar to each other but slightly different, just to differentiate ourselves. That wouldn't have been in the best interest of investors.”