The ZEW Center for European Economic Research’s index of German economic expectations executed a quick turnaround in November, climbing to 11.5 from a negative 3.6 reading in October.
Meanwhile, the ZEW Center’s index that assesses current business conditions appears to have found a bottom after plummeting from June to September.
These data points suggest that the Ifo Institute’s index of business expectations could also rebound, though investors shouldn’t necessarily regard this turnaround as a surety.
However, an improvement in this important gauge of German business sentiment would be a bit of welcome news for the eurozone’s languishing economy, especially after Markit’s preliminary data indicated that the EU Purchasing Managers Index (PMI) sank to 51.4 in November—a 16-month low.
This persistent weakness has afflicted the PMI for EU manufacturing, which dropped to 51.3 from 52.3 in October, and the services sector, which slipped to 50.4 from 50.6. (PMI Readings greater than 50 indicate an expansion in economic activity; values less than 50 suggest a contraction.)
The EU’s largest economies didn’t fare much better in November. A significant decline in new orders dropped the PMI reading for Germany’s manufacturing sector to 50 from 51.4, while France’s composite PMI climbed to 48.4 from 47.2.
These disappointing economic data points indicate weak domestic demand and should push the European Central Bank (ECB) closer to taking aggressive action in an effort to stimulate inflation, which continues to hover around 0.4 percent.
The ECB has already telegraphed its plan to expand its balance sheet to about EUR3 trillion from about EUR2.04 trillion today.
Meanwhile, households’ discretionary income should receive a boost from low inflation and recent weakness in oil prices. Political developments also suggest that fiscal policies will become less restrictive in many European countries, a shift from the austerity that has ruled in recent years.
These signs of life reinforce our belief that the EU economy can grow by more than 1 percent next year.
European corporations generate about 50 percent of their revenue outside Europe; the combination of a weak euro and an improving global economy should boost earnings significantly.
Toward the end of July 2014, we called for the euro to decline to about US$1.30. But given the US economy’s strength relative to the eurozone, we have lowered our outlook for the common currency to US$1.20.
Although European equities have performed well over the past three years, these returns pale in comparison to the major US stock indexes.
Much of the upside in European markets has come from expanding multiples; the MSCI Europe Index trades at about 14 times forward earnings—near the top of its long-term range. Meanwhile, corporate earnings are down almost 25 percent from their peak in late 2007.
But with the tailwinds of a weaker euro and a solid global economy at their backs, European corporations could deliver meaningful earnings growth in 2015, driving double-digit gains for the MSCI Europe Index in 2015.