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European Equities: Staying Positive amid the Storm Clouds

By Yiannis G. Mostrous, on Mar. 11, 2015

We first called for investors to consider adding exposure to European equities in September 2013 and five months ago identified the Continent as one market where equities could deliver decent returns in 2015. (See Destination Europe and Eurovision: Looking Forward to a Brand New Year for the Old World.)  At this juncture, we continue to expect European equities to outperform other developed markets.

The STOXX Europe 600 Index has rallied 14.3 percent this year in constant-currency terms and slightly outperformed the S&P 500 in US dollar terms. Cyclical stocks have led the way, as investors bet on a eurozone recovery.

(Click graph to enlarge.)uropean Equities Outperform

This relative strength may surprise investors who get most of their news from mainstream outlets in the US.

Recent economic data in Europe have surprised to the upside, while leading indicators suggest that there’s more good news to come.

EU gross domestic product (GDP) climbed by 0.3 percent sequentially in the fourth quarter of 2014, pushing full-year economic growth to 0.9 percent—a dramatic improvement from the 0.4 percent contraction that the region suffered in 2013.

As in the US, minimal inflation and the severe downdraft in oil prices have boosted European households’ discretionary income.

Political developments suggest that fiscal policies will become less restrictive in many European countries, a welcome shift from the austerity has ruled in recent years.

These signs of life reinforce our belief that the EU economy can grow by about 1.5 percent this year and maintain this rate of expansion in 2016.

Inflationary trends appear to have stabilized and could surprise to the upside—an outcome that the European Central Bank, which recently launched its asset repurchase program, undoubtedly would welcome.

The year-over-year change in Eurostat’s Monetary Union Index of Consumer Prices—a weighted average that tracks inflation in the eurozone—showed that deflation improved to 0.3 percent, fueled by better-than-expected numbers from Germany, Italy and Spain.

(Click graph to enlarge.)eurozone inflation rate

Gradual economic improvement in Europe and a relatively healthy outlook for the global economy bode well for earnings, especially with the euro continuing to lose ground against Uncle Buck; EU corporations generate about 50 percent of their revenue outside the Continent.

That said, the easy money has been made shorting the euro, which now trades at US$1.06.

Bottom Line: Stimulatory monetary and fiscal policies, a weaker currency and improved credit availability from banks should help to bolster European GDP growth.

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