It might not feel like a particularly good time to invest in Europe. With Britain’s EU withdrawal negotiations still at an impasse and trade tensions between the US and China intensifying, there seem to be plenty of good reasons to exercise caution. The question is, are these risks fully reflected in share prices, or not yet.
It’s become uncommon to frame Europe in anything much other than a discussion about Brexit these days, but here goes.
The fundamentals appear to be improving. The eurozone economy is now growing at a decent rate – economic growth rose to 0.4% last quarter – and unemployment has fallen to its lowest in a decade1. A short recession in Italy – a particular source of concern last year – has ended2.
Meanwhile, Europe continues to draw on the support of near-zero interest rates, a big plus for businesses and consumers alike. The European Central Bank even indicated in March that rates won’t now be raised until 2020 at the earliest3.
Despite this, compared with other international markets, European shares remain attractively valued. According to MSCI, shares in Europe excluding the UK traded on around 17 times historic earnings at the end of last month, compared with 21 times in North America4.
That may be partly down to Europe’s comparatively low exposure to large technology companies, which have been doing so well this past year. It may also reflect the strong trend among US companies to buy back their own shares. This will have helped American share prices keep pace with rising corporate earnings over the past year.
Europe’s discount compared with America is sizable all the same, especially in view of an economy where growth is now improving.
There are problems though. There’s no getting away from the fact that threats to global trade are a negative for Europe. The region has a particularly high exposure to emerging markets – estimated to account for around one third of all exports5.
China now vies with America as the most important export market for some of Europe’s prodigious exporters. Bearing in mind the Chinese economic slowdown currently underway, Mercedes Benz confirmed in January that China is now the largest single market for its products. It also said that the growth in demand in China – at 11% - was the highest it had seen anywhere in 20186.
The German sportswear giant Adidas and L’Oreal of France are among an increasing number of companies now with dominant or very large positions to protect in China’s rapidly growing consumer market.
Like Britain’s EU withdrawal negotiations, US-Sino trade talks have so far failed to find solutions to fundamental issues. Current tensions could be interpreted as being more about supremacy in technology than about trade; and intellectual property infringements and forced technology transfers for companies entering China remain seemingly intractable problems for now.
We can only hope that the large vested interests both countries have in turning down the heat and returning to an acceptable deal on trade will win through in the end. The latest noises coming from Washington and Beijing this week suggest they will. That’s good, because if no accommodation is reached, Europe, as elsewhere, could be in for a bumpy ride.
Brexit is also a concern, not least because the European Union stands to lose its second largest member state later this year. Without the UK, the EU would see a shift in the balance of power in favour of southern Europe, with uncertain outcomes in terms of economic stability and fiscal discipline. That’s in addition to what the region faces in terms of populist shifts in voting at next week’s EU parliamentary elections.
Against that, Europe has lagged other major world economies since the world began recovering from the global financial crisis of ten years ago, and valuations are attractive. Political distractions in the form of EU parliamentary elections, Brexit and even continuing Italian budget concerns, could be just what European investors need to help them snap up some longer term bargains.
Fidelity’s Select 50 list of favourite funds can help in this regard, as it features a good spread of actively managed European funds aimed at sifting through markets to find the undiscovered or underappreciated gems.
The FP CRUX European Special Situations Fund is a relatively concentrated portfolio of about 55 to 65 stocks which invests in medium and smaller companies as well as blue chips. Its aim is to deliver capital growth. Current top holdings include the German commercial and residential real estate company Aroundtown, the pharmaceuticals giant Novartis, and the Danish facilities services group ISS.
For a more defensive exposure to Europe that also generates an income, there’s the Invesco European Equity Income Fund. Here you’ll find some familiar, dividend paying European names – Roche, Total and Deutsche Post, for example.
3European Central Bank, 07.03.19
5European Commission, 15.03.19
6Mercedes Benz, 08.01.19
The value of investments and the income from them can go down as well as up, so you may get back less than you invest. Overseas investments will be affected by movements in currency exchange rates. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. Select 50 is not a personal recommendation to buy or sell a fund. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to an authorised financial adviser.