US investors have watched the progress of the euro experiment with interest over the past year as the currency wobbled and the euro asset markets began to find their feet.

So far, Americans have shown far more enthusiasm for the euro equity markets than for the fixed income side. Although they are cautiously optimistic, they think the bond markets still have a long way to go. Dr Marci Rossell, corporate economist for the Oppenheimer Funds in New York, says that institutional investors began increasing their allocation to European equities two years ago, as soon as the start of the euro became a certainty. "You are certainly seeing more European specialist funds being marketed,' she says. Oppenheimer launched a European fund itself in May, 1999. Roberto Plaja, a member of JP Morgan's Investment Management's global asset allocation team, sees a "blossoming' of US interest in European equity markets, partly due to an increase in investment by European institutions, which have traditionally put little into stocks. According to Charles Gradante, chief investment officer of the Hennessee Group, a hedge fund consulting firm which also runs a hedge fund, allocations in this sector are way up too. "Hedge funds have increased their allocations for European equities from 15% in 1998 to 20% in 1999. For 2000 they are up to 30%,' he says. The euro itself is only one reason for this surge of interest. "There have been more fundamental shifts in the European economies – the movements toward deregulation and sound monetary policy have been important,' says Oppenheimer's Rossell. Others mention widespread corporate restructuring and adoption of more free market policies as positive factors. Hennessee's Gradante says: "The management philosophy in Europe has changed from looking at top- line growth and ignoring profitability to looking at both. They are now more concerned with the expense line and have been spinning off unprofitable divisions.' Managers see upside potential in the technology boom, which is only now hitting European markets, a few years behind the US. Also, fund managers in the US think the euro has probably reached its low against the dollar. They say that one of the reasons for euro weakness was American fears that European countries were less well prepared for Y2K problems. But with Y2K out of the way they are expecting a first-quarter strengthening of the currency as European economies continue to pick up. US investors still treat equities on a country-by-country basis, rather than looking at Euroland as a single market, says Rossell, but she and others say this is beginning to change as markets increasingly move together. JPMIM's Plaja says that fund managers in the US are becoming more sector-oriented in their European equity research. "They are becoming aware, for example, that if they are overweight in the Netherlands they are primarily invested in oil stocks,' he says. On the fixed income side, US fund managers have been less excited. Plaja says investment in euro bond assets has been less than it might have been for two reasons. One is the weak performance of the currency, partly because US economic performance so much outstripped that of Euroland last year. "The other surprise is that we didn't see the explosion of corporate fixed income issuance that everybody was expecting,' Plaja says. "Obviously, we have seen some diversification, but not as fast as, or in the size that, people expected to see.' Plaja says US fund managers are expecting continued progress this year, but do not expect to pile into the market until they get a better range of products and more of a lead from European institutions. "We need local investors to diversify within their own currency bloc,' he says. "The corporate market has to come alive before more people get interested.' In fact, he says, European investors have been putting their money into higher yielding US bonds because the kind of products they had been expecting to see in their own currency have yet to materialise. Hedge fund managers are no keener on the euro bond markets than the traditionalists, according to Hennessee's Gradante. "Managers are not really playing the euro bond market at this time,' he says. They are not finding much mileage in arbitrage plays, or any real trend worth riding, Gradante explains. "The market is still not as liquid as US managers would like – they are a bit spoiled by the US bond market. The euro market is still chiefly institutional and somewhat shallow.' He does not expect much real progress in the euro markets until the base economies and the physical money supplies of the member countries are converted to euro. Gradante believes that the Euroland countries do not yet have a single monetary policy or money supply, chiefly because of the continued existence of the legacy currencies in physical form. "The European Central Bank is moving toward uniform control of the money supply, but until the currency is at street level, that's hard to do,' he says. For that reason, Gradante thinks it is still hard for bond managers to treat the euro countries entirely as a bloc, despite the largely "top- down' approach that investors generally take in the fixed income markets. Others, such as JPMIM's Plaja, disagree, saying that US investors do regard Euroland as a bloc for investment purposes, and see monetary policy as unified – even if those policies are not exactly ideal for each individual country. He particularly mentions Spain and Ireland, where looser money has created some inflationary pressure. Unfortunately, even if euro fixed income markets improve markedly in liquidity, depth and choice over the course of this year, the good economic news in Europe which is driving the equity boom is bad news for bond investors. They do not want to be holding fixed-income assets in a high- growth, possibly inflationary environment, say fund managers. Nonetheless, US investors are keeping their eyes open for good opportunities in Europe, particularly where sophisticated credit analysis – in which the US is far ahead of Europe – can make a difference. "In this business, we're all scavengers,' says JPMIM's Plaja.