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ANALYSIS: All stars aligned for European equities rally

The index covering the 50 largest stocks in Europe leaped 3.9%, led by banking stocks such as Societé Générale (+9.9%) and BNP Paribas (+7.5%). Markets have now priced in that a pro-European, business-friendly president will occupy the Elysée palace in Paris for the next five years. Does this reassuring thought mean that all stars aligned for European equities, and that markets will reach for the sky? 

Jan Vergote, chief economist at the Belgian bank Belfius, believes the European equity rally is set to continue at least till the end of this year. 

“We had already increased our exposure over the past 14 days against a backdrop of improving macroeconomic data in Europe,” he told Expert Investor, adding that this positive dynamic is likely to be reinforced by Macron’s likely victory in the second round. “Eurozone equities are the place to be now. We especially like high beta stocks such as industrials and banks.” 

Thomas Romig, head of multi-asset at Assenagon in Frankfurt, is equally bullish. “We increased our equity allocation slightly on Monday,” he said. Romig thinks the biggest opportunities within European equities may now be in small caps because of their high exposure to the European economy. “And on a day like this, large cap stocks go up most because everybody buys futures [of mainstream indices]. Small caps are only up 1.7% today.” 

Political risk premium

European equities have consistently been traded on lower valuations than US stocks over the past few years, which has been mainly due to the political risk connected with the asset class. “It is now logical that we start to see Europe’s high equity risk premium finally beginning to moderate,” said Jeff Taylor, head of European equities at Invesco Perpetual. 

“European equities have underperformed US equities over the past 10 years, and we expect this trend could reverse. We think European equities could benefit from favourable valuations, improving earnings growth and global reflation,” added Brooks Ritchey, head of portfolio construction at K2 Advisors. 

Though the euro has made some gains against the dollar recently, it’s still cheap on a historical basis. The recent flurry of American companies trying to take advantage of this by snapping up ‘cheap’ European companies (Kraft Heinz chasing Unilever and paint manufacturer PPG going after AkzoNobel being only a couple of examples) is testimony of that.

M&A activity will drive up the share price of selected European companies in the months to come, and “many foreign investors have been avoiding the euro area because of political risk, and they may well return to European stock markets now,” says Romig.

Are European equities still cheap? Read the answer on the next page

 

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