Where Next for European Equities?
John Bennett, Head of European Equities at Janus Henderson, assesses the drivers behind the resurgence in European equities, and considers the prospects for future stock market performance in the region. He also outlines where he is seeing opportunities, including the European banking sector.
What has driven the European equities rally in 2017?
I think we have to modify our understanding of just how strong it has been. You have to modify it by the currency. If you had been a sterling investor in Europe, you have enjoyed it. Not just the last year, or 2017 to date; in fact the last five years have been fantastic for a sterling-based investor. Sterling has had a very meaningful devaluation that, as we speak, continues. If you had been a euro investor in Europe, returns year-to-date have been single digit.
What is really driving this? As ever there are a number of forces, but earnings is fundamental to this. The earnings trajectory has been good in certain sectors that were formerly not very good. Banks, for example. I think that investors or asset allocators started to think, after the French election, that political risk in Europe had gone. All of the above created an environment where asset allocators came back to Europe.
Do you think it will continue?
I think Europe has further to run. I think Europe remains a catch-up trade. I would not join the camp of European equities fund managers who say that Europe is going to close the valuation gap completely with the U.S. But when I look at the valuation of U.S equities, and I look at the valuation of European equities, one of them is wrong. If U.S equities are right at current prices, then Europe has a lot further to go.
Will European banks remain a theme?
I think banks are going to continue as a theme, subject to one major proviso – the shape of the yield curve. I am very worried about the lack of inflation and the effects that has on bond yields. I think banks have further to go. Stock prices are at 12-month relative highs as we speak and they have done that despite no help from the bond yield curve. They have done it through earnings, through restructuring, through the much-needed building of capital. We have just come off the third consecutive good quarter for bank earnings. We are celebrating that because we had a nuclear winter for bank earnings, and for banks in general, that lasted a decade. We are coming out of that, so I don’t think that the positive mean reversion for bank earnings and bank stock prices is over in only a year.
Is Brexit affecting your thinking?
My view on Brexit and how it is affecting my thinking is exactly the same as it was in the lead up to Brexit (the vote). Ignore it. It has no impact whatsoever on my thinking.
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Mean Reversion is the theory suggesting that prices and returns eventually move back toward the mean or average.
Foreign securities are subject to additional risks including currency fluctuations, political and economic uncertainty, increased volatility, lower liquidity and differing financial and information reporting standards, all of which are magnified in emerging markets.