18 October 2019
At GAM Investments’ Weekly Investment Meeting held on 16 October 2019 the speaker was Niall Gallagher, who discussed the outlook for European equities.
- We have seen a strong bounce back from European markets this year. Yet despite these strong moves the price to equity (P/E) ratio of European equities at around 13.75x is in line with the 30-year average and they are currently valued at record low levels versus their US counterparts and attractively valued relative to other asset classes in our view.
- A regional breakdown of European equity revenues makes interesting reading. Approximately 45% of the revenues of the European equity market in 2018 came from Europe and 40% from emerging markets (EM). This highlights just how globally orientated European equities have become compared to history – going back to the 1980s some 75% of European companies’ revenues were derived from within Europe.
- In terms of a European domestic recovery, we have seen something of a bifurcation within European economies. While Germany and Italy have been weaker, areas such as France, Spain, the Netherlands, Ireland and the Nordics have been stronger. While headlines are pointing to weakness in Germany, and German industrial production has certainly been negatively impacted particularly by slower automotive sales to China and global trade concerns, we find there is no clear picture as the German consumer remains confident and the employment environment is healthy. Elsewhere in Europe, services and consumption remain robust; unemployment is low, wage growth remains strong, investment is at reasonable levels and the credit impulse is positive. Europe has been impacted by the China downdraft, but we are seeing signs of a recovery in China. Exports to China make up around 40% of German GDP, so a continuation of improvement from China in terms of credit impulse, industrial profits and production would be a positive for the German economy. That said, Brexit has had a negative impact on the UK and neighbouring economies so any signs of a deal being concluded would be a positive.
- One area we have been looking at is the value versus growth debate. European value stocks are at all time low valuations relative to their growth counterparts and we have seen the longest recorded period of value underperformance. There do appear, at first glance, some interesting areas within value, however the story is not that simple – some parts of the value index face structural challenges and could represent value traps. Five sectors which face these challenges account for 50% of the European value index, and make the case for a wholesale switch into value difficult. Banks face technology challenges to respond to fintech, and low interest rates combined with rising regulatory obligations could severely hinder return on equity. In the autos sector, it is the future rather than the present that needs scrutiny; the drive for electric vehicles will require huge levels of investment and, at this point, the picture of who will succeed in this area is not clear. Additionally, as the use of ride hailing technology grows there could be lower utilisation of cars in general. Within energy there is a risk of stranded assets, the increased focus on ESG could result in disinvestment for a sector aligned with environmentally unfriendly fossil fuels. Utilities are also suffering from the move to green energy and many of their asset requirement obligations are difficult to quantify, while telecoms companies are facing technological and regulatory pressures.
- We believe it is therefore more important to consider European equities at an individual stock level rather than just as a value versus growth story – there are many nuances to debate but on the whole we remain positive and believe there are many attractively valued stocks. A satisfactory resolution to Brexit should lift sentiment on European equities and allow the market to kick on further.
Source: GAM unless otherwise stated.
The information in this document is given for information purposes only and does not qualify as investment advice. Opinions and assessments contained in this document may change and reflect the point of view of GAM in the current economic environment. No liability shall be accepted for the accuracy and completeness of the information. Past performance is no indicator for the current or future development. Reference to a security is not a recommendation to buy or sell that security.