Investment Strategy:  Second Quarter – Specific Market Reviews: Europe

  • Macroeconomic data for Europe continues to be pretty dire. GDP growth was only 0.2% in the final quarter of last year with y/y growth not much above 1% compared to nearly 3% a year earlier. Italy saw growth contract for the second quarter in succession and, more worryingly, the German locomotive also saw no growth at all. Around 25% of eurozone exports (the number is a whopping 47% for Germany) go to the emerging world so slowing global growth and the US/China trade concerns loom large in the hunt for suspects.
  • The hope is that Europe should rebound from its current malaise as several of the factors causing the current weak spot should alleviate. Germany and France account for around half of Eurozone GDP but with very differing economies and both have had problems which may prove to be temporary. Germany is very manufacturing based with a heavy dependence on the auto industry which had a specific issue with changes to car emissions testing whilst there was also a big revision down in the pharma industry in Q4. The French economy is much more consumer driven and sentiment has been badly mauled by the ‘gilet jaune’ protests whilst Italian growth, always seemingly stagnant, suffered from the massive spike in bond yields last summer which was equivalent to around 2.5% of interest rates rises. Fingers remain firmly crossed in hope as much as expectation
  • There will certainly be plenty of support, as always, from Mario Draghi. With growth struggling monetary policy continues to be very loose and supportive. The ECB has given up on its target of removing negative interest rates in 2019 and lowered both its growth and inflation targets. No normalisation of monetary policy in the Eurozone! The problem is of course that the ECB has very few arrows left in its quiver with rates already so low and its bond buying already close to maximum limits.
  • One of the problems for the Eurozone is that it is monetary policy alone which is being used to prop up the economy. Austerity may be a thing of the past at least but there is little sign of any fiscal cavalry on the horizon. Europe has no common fiscal policy which instead comprises the sum of countries individual parts and given the size of most countries budget deficits, this adds up to very little. Whisper it quietly though, there is talk in Germany of the biggest fiscal stimulus since 2009 , it would certainly be very welcome!
  • Brexit, gilet jaune, the end of the Merkel era, the rise of populist and nationalist parties, blimey, European politics are a bit lively at the moment and are another potential pothole in what looks like an increasingly treacherous road.
  • As with other global markets, European bourses rallied strongly last quarter notching up double digit returns in some cases. The MSCI Europe is now trading on a forward P/E of around 13.5x which feels pretty much like fair value.

Summary: Markets rebounded from the heavily oversold levels of last year but fundamentals remain challenging with concrete evidence needed that the Eurozone economy is capable of recovering from its current malaise. Politics remain a minefield.

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