by After a multi-year period of recovery from the 2008 financial crisis, Europe’s economy is finally on the road to expansion. In 2016, Eurozone GDP has returned to above its pre-crisis peak, domestic demand is strong, and employment is growing. The European Central Bank is trying to keep the momentum going with a March interest rate cut and increases in asset purchases. And yet the continent’s equities are sputtering. As of early May, the MSCI European Economic and Monetary Union Index was down 3 percent for the year, compared to just a 0.03 percent drop for the MSCI World Index. European equity funds have experienced significant outflows of late after a period of consistent inflows since late 2014. Looking to the future, a recent Credit Suisse survey found that less than 40 percent of investors believe that continental Europe will be the best-performing region in the coming quarter – down from a high of nearly 70 percent late last year. What’s changed? A key headwind hampering the performance of European equities has been the strength of the euro. On a trade-weighted basis, the currency is up 5% from its 2015 trough, and that rise has driven earnings — and earnings estimates — downward. Credit Suisse analysts expect the euro to continue rising, which will likely result in continued declines.
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Alice Gomstyn considers the following as important: Credit Suisse, European equities, Investing: Features
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After a multi-year period of recovery from the 2008 financial crisis, Europe’s economy is finally on the road to expansion. In 2016, Eurozone GDP has returned to above its pre-crisis peak, domestic demand is strong, and employment is growing. The European Central Bank is trying to keep the momentum going with a March interest rate cut and increases in asset purchases.
And yet the continent’s equities are sputtering. As of early May, the MSCI European Economic and Monetary Union Index was down 3 percent for the year, compared to just a 0.03 percent drop for the MSCI World Index. European equity funds have experienced significant outflows of late after a period of consistent inflows since late 2014. Looking to the future, a recent Credit Suisse survey found that less than 40 percent of investors believe that continental Europe will be the best-performing region in the coming quarter – down from a high of nearly 70 percent late last year.
What’s changed? A key headwind hampering the performance of European equities has been the strength of the euro. On a trade-weighted basis, the currency is up 5% from its 2015 trough, and that rise has driven earnings — and earnings estimates — downward. Credit Suisse analysts expect the euro to continue rising, which will likely result in continued declines.
Many European companies are also on the wrong side of technological disruption, with the result that the continent’s indices have underperformed. In the U.S., Internet software, services and retail account for 6 percent of market capitalization, and high-flying tech giants such as Amazon and Facebook have driven U.S. outperformance. In Europe, on the other hand, the segments represent just 0.2 percent of overall market capitalization. That lack of outsized disruptors has meant that, within European indices, there has been no counter-balance to the poor performance of companies hurt by disruption. The most glaring example of this is in retail, where Amazon helped the U.S. retail sector outperform its euro-area counterpart by nearly 20 percent over the last two years.
European automakers, meanwhile, are grappling with technological disruption in the form of the growth of the electric vehicle market as well as car-sharing systems. But perhaps their biggest challenge comes from China, where their market share is being threatened by increased competition from Chinese domestic brands and a growing second-hand car market, among other factors.
Then there’s the perennial wild card of politics. Among the challenges Eurozone economies – and by extension, continental European equities – are currently facing are the political and logistical challenges of the continental migrant crisis, the rise of anti-European Union political parties, and continuing uncertainty about debt relief measures for Greece.
Yet for all the short-term negatives, there are signs that longer-term headwinds are abating. Global industrial production has declined so far this year, but Credit Suisse economists expect it to trough soon, and Euro-area equities tend to outperform when global manufacturing activity improves. There are some tentative signs of an upswing on that front: The U.S. Institute of Supply Management’s measure of new orders rose seven points in March while new manufacturing orders in China ticked up by three points.
Within European equities, banking has been a particular sore spot. The financial sector has been one of the worst performing sectors globally in recent months, and Europe’s exposure to financials is high. They account for 20.5 percent of Continental Europe’s market capitalization compared to 18 percent in the U.S., while banks specifically make up 9 percent, compared to 5 percent in the U.S. But Credit Suisse analysts believe that bank stocks will recover as Europe’s economic recovery continues – especially if German bund yields rise, which Credit Suisse expects to happen.
Underperforming emerging markets have also been a headwind for European businesses and stocks. Exports to emerging markets account for 18 percent of revenues for the companies in the Euro Stoxx 50, while European exports to emerging markets make up nearly 12 percent of euro-area GDP, compared to less than 8 percent for the U.S. Emerging market exposure is transforming from a headwind to a tailwind, however, as economic momentum in developing markets has picked up and emerging market currencies, excluding China’s renminbi, are relatively cheap.
So where should an optimist be looking for opportunity? At stocks in Germany and Spain, for starters, as well as those in peripheral economies such as Portugal. Eurozone small caps, Credit Suisse analysts say, are also poised for liftoff after steep losses earlier this year.