Do the fama and french factors proxy for state variables that predict macroeconomic growth in the Eurozone?

Liew and Vassalou show that the returns to HML and SMB contain incremental information on future Gross Domestic Product (GDP) growth rates in selected countries. We extend these findings in focusing not only on 16 European countries but also on 11 pan-Eurozone industries and the Eurozone as a whole. In focusing on the latter two, we give a new twist to the Liew and Vassslou methodology since we use it as a means to test whether equity markets across the Eurozone are integrated. Using sample data from January 1990 to April 2008, we find empirical support for the existence of a value, size, and momentum effect in various countries, industries, and in the Eurozone as a whole. In addition, we document that not only the market factor may serve as leading indicator for future real economic activity but also the returns to SMB and to a lesser extent HML. We also link the profitability of WML to future GDP growth rates. We yet fail to find the same significance as for SMB and HML. Our results are in line with an ICAPM explanation for the empirical success of the Fama and French factors. Moreover, we document that the returns to pan-Eurozone and industry specific SMB and HML trading strategies contain incremental information on future GDP growth in the Eurozone. This implies two things. First, industry characteristics have become increasingly important relative to country effects for the explanation of equity returns in the Eurozone. Second, equity markets across the Eurozone are to a certain extent integrated.