The case for Europe: economic stability?

02/10/2017

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Europe comprises well-regulated financial markets across all major industries, from mining and manufacturing to retail, banking and technology. The depth and breadth of European markets, with their variations between different countries, provide investors with a wealth of potential investment opportunities.

Europe has faced both political and economic challenges since the global financial crisis, which began with the collapse of the US ‘sub-prime’ mortgage market (a market for loans to borrowers with less-than-perfect credit histories) in 2007. The crisis rapidly spread to Europe, affecting much of the region, particularly those smaller countries with their own debt problems, most notably Greece. Much has changed since that time, with Europe’s leaders taking decisive action to improve government finances and push through deep reforms, particularly in the banking sector, to reduce the likelihood of future crises.

Europe outpaces the US

Economic progress in Europe remains well supported, with economic growth improving across the region and the European Central Bank (ECB) remaining supportive, following a sustained period of record-low interest rates. The first half of 2017 saw Europe grow faster than the US, having outpaced the world’s largest economy in 2016. In terms of equity markets, stock valuations (the price of shares in a company) are not excessive, either relative to the region’s history, or the US. European equities also look attractively priced (given the level of potential income) relative to bonds (loans to governments or companies).

Sustained support from the ECB

The ECB, led by President Mario Draghi, remains committed to decisive action to spur economic growth and stability in the region, injecting significant sums of money into the economy since 2007, as Chart 1 here shows.

Chart 1: ECB stimulus measures (€ billions)


Source: Janus Henderson, Thomson Reuters Datastream, 31 December 2007 to 31 December 2017. Coloured line is a forecast based on the value of planned quantitative easing (QE).

 

Intervention has been focused on using extraordinary policy measures, such as the ongoing quantitative easing  (QE) programme, currently at €60 billion per month, which is due to end, or at least begin reducing, at the start of 2018. QE, coupled with low interest rates and direct loans to banks, has helped to stimulate the European economy, although growth remains muted.

The economy is not the stock market.

While there are good reasons to be optimistic about the long-term prospects for European companies, there are risks that investors should keep in mind, including the uncertainty around what impact Brexit might have on the European economy.

The ECB also faces significant challenges as it looks to end its stimulus measures and increase interest rates without undermining confidence in the region. Stock markets across Europe took a temporary tumble in June 2017 after Draghi hinted that the ECB was considering an end to QE. Any move to wean Europe away from its reliance on existing stimulus measures will need to be carefully planned, and is likely to be slow and protracted.

Whatever happens, it is important to remember that the economy is not the stock market. Finding the best companies to hold at an appropriate price remains the primary driver of long-term returns. Investors should never lose sight that price is what they pay, value is what they get if the price is right. Europe is home to a diverse range of companies, many of which are misunderstood or under-researched, and which are used to operating with an uncertain political backdrop. Many European-listed businesses also derive a significant proportion of their revenues from a global market, meaning that they are less reliant on the health of Europe’s domestic economies to be a success. 
 

*Quantitative easing: A measure whereby a central bank creates large sums of money to purchase government bonds or other forms of debt, in order to stimulate the economy.

These are the views of the author at the time of publication and may differ from the views of other individuals/teams at Janus Henderson Investors. Any securities, funds, sectors and indices mentioned within this article do not constitute or form part of any offer or solicitation to buy or sell them.

Past performance is not a guide to future performance. The value of an investment and the income from it can fall as well as rise and you may not get back the amount originally invested.

The information in this article does not qualify as an investment recommendation.

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