European equities staging a comeback

Apart from Germany, European equity markets have not been particularly popular with investors in past years. This was due to the uncertain political climate, various crises and the weak profit momentum of many European companies. For this reason, the Euro Stoxx 50 developed worse than the DAX and the major US equity indices for many years. This could now change.

 

The Euroland economy is finally in good shape again. Developments haven’t been as encouraging in years. The momentum has recently accelerated and is expected to gain more breadth in 2018. At the same time, global economic growth is picking up, thus also signalling the prospect of far better earnings again for companies in Europe next year.

Because the new crises anticipated in Europe 2017 generally failed to materialise, the continent today is far more stable economically and politically – despite the uncertainty over a new government in Germany – than in past years in which discussions were dominated more than once by the possible demise of the euro.

After a decade of continuous underperformance against the S&P 500, the prospects of a renaissance on the European equity market therefore look good. The US equity market is clearly earning a premium over its European counterparts, due among other things to the fact that all leading technology companies and platforms of the western world are domiciled there as well as the substantially higher profits generated by US banks compared with their European rivals. Even so, Europe is likely to become more popular again as an investment theme in 2018 thanks to the greater stability and growth. The discounts on which European equities are trading against the US stocks are only partially still warranted.

The political sovereign risk in the countries in which the vast majority of the Euro Stoxx 50 companies is domiciled appears manageable. Given the country’s well-known problems (politics, debt, banks), Italy remains a troublemaker, and this could have repercussions for market sentiment in 2018. However, the development in Italy is unlikely to become a dominant market theme, also because an improvement could recently be noted in some of the factors named above.

In contrast, the Euro Stoxx 50 corporate profits can be expected to head upwards in 2018 in tandem with the brisk economic development, gaining between eight and ten percent. This increase could bring the Euro Stoxx 50 to the 4,000 point mark by the end of 2018. In view of the positive economic scenario for 2018, even higher share prices are on the cards. However, the reverse strategy being applied by the central banks (reduction of the Fed’s balance sheet, the tapering of the ECB asset purchases) should prevent an overly positive share price development by year-end 2018. Based on our long-term yield forecast for fixed-coupon bonds (Bund yields by 2021 below 2%), equities also remain generally attractive.

Thanks to the above-average earnings growth of companies and the high dividend attractiveness compared with other indices (3.4% for the whole of 2017), we estimate the price perspectives of the Euro Stoxx 50 in a positive light. The index is one of the few equity market indices worldwide that, historically, does not appear too dear at the moment.

 

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