French manager Métropole Gestion highlights positive signs in Europe that makes European equities a good investment in the current global environment.
This summer was synonymous with volatility on the financial markets. Fears over China’s economic growth followed on the heels of Greek default worries.
However, these fears should not overshadow the solid earnings releases published by European companies. On the whole, they outperformed the consensus which is still featuring forecasts for low profit growth.
The People’s Bank of China’s surprise decision in August to devalue the yuan exacerbated investor fears over China’s economic outlook. The Shanghai stock exchange has shed more than 25% since the end of June.
Meanwhile in Europe, sectors with the greatest exposure to the Chinese slowdown (basic resources, automotive, oil & gas) recorded the biggest losses. Against this backdrop, our portfolios – predominantly invested in companies generating most of their business in Europe – were quite resilient overall.
Our portfolios’ exposure to the Chinese economy, as measured by the revenue earned by portfolio companies in the country, averages 3%. This positioning has absolutely nothing to do with a specific view on the Chinese economy, but rather has to do with the substantial undervaluations of companies with the greatest exposure to the European economy.
Domestic cyclicals, such as temporary employment companies Hays and Randstad, Cagemini and Atos in IT services and Saint-Gobain in construction, generate 70% to 90% of their revenue in Europe.
Given that European economic activity is, on average, 25% below its 2007 peak and that unprecedented efforts are being made to improve fixed costs, valuations have a lot of catching up to do.
Similarly, the public’s perception of telecom stocks (which occupy a large position in our portfolios) has been clouded in recent years by two negative factors: a very high exposure to the European economy and worsening competitive conditions.
Our initial investments in the sector began around mid-2013 when the European telecom market began showing signs of stabilisation.
According to recent publications, the tide of earnings has definitely turned for these companies, now that the anti-trust regulator is no longer opposed to consolidation deals aimed at promoting investments in very high speed internet.
Banks, which have long embodied fears surrounding the European economy and made up a significant percentage of our holdings due to their low valuations, have published better-than-expected results.
Like BNP Paribas, which was re-introduced into METROPOLE Sélection at the end of May, and Italian banks Unicredit and Intesa Sanpaolo, trends in cost of risk and loans in Europe are improving, in turn helping results improve. Home improvement retailer Kingfisher, which earns most of its revenue in the UK and France, benefits from the same positive signals.
Conditions are ripe for European companies, thanks to a combination of low energy costs, the depreciation of the euro and the improved macroeconomic outlook in Europe.
Not so for their US counterparts, impacted by the appreciation of the dollar, or their Chinese peers, currently burdened by the country’s economic slowdown. This relatively more favourable environment, coupled with cyclelow valuations, is the perfect set-up for major revaluations.