The outlook for the Eurozone
Unemployment continues to fall and investment rise in Europe, although escalating trade tensions are among potential headwinds facing the region.
What you’ll learn:Click to toggle accordion What you’ll learn:
How European economic growth is slowing.
What some of the potential headwinds facing Europe are.
How investors can gain exposure to European equities.
Despite Eurozone economic growth cooling and investor confidence being knocked by recent political turmoil in Italy, there are reasons to remain positive on European equities for now.
Here, we consider the outlook for the region, including some of the potential risks, and examine ways investors can gain exposure.
EU economic growth – a temporary slowdown?
Gross domestic product (GDP) in the euro area expanded by just 0.4% in the first quarter of 2018, according to latest figures from Eurostat, the statistical office of the European Union, its weakest pace since mid-2016. 1
The European Commission has downplayed concerns of slowing economic growth, and in May maintained its forecast that full-year growth will nearly match the decade-high pace hit last year, underlining the strong recovery for the Eurozone, following years of financial crisis.2
A poll of over 90 economists taken between 19-22 June forecast that the Eurozone’s economy would expand at 2.2% this year, marginally lower than the 2.3% forecast in the same poll last month.3
The European Central Bank’s President Mario Draghi has also expressed confidence in the Eurozone’s economic growth. The ECB will halve the pace of its quantitative easing (QE) programme to just €15 billion per month after September, with plans to stop buying bonds entirely in December.
The ending of the ECB’s bond-buying stimulus programme indicates that the Bank no longer sees the need to maintain an ultra-loose monetary policy, although ECB policymaker Francois Villeroy de Galhau Villeroy has pledged that it will remain “accommodative.”4
Countries within the Eurozone have made significant progress over recent years in reducing any macro-economic issues that could impact on their stability, with most having reduced their budget deficits, while enjoying current account surpluses.
Eurozone finance ministers recently agreed a debt-relief deal for Greece, aiding the country’s revival after more than eight years of international bailouts by the European Commission, the European Central Bank and the International Monetary Fund, and boosting confidence in the Eurozone.
The deal for Greece has been hailed as ‘historic’, by extending the period during which Greece will pay little or no interest on its debt, with Pierre Moscovi, the EU Economic Affairs Commissioner, saying that the agreement means “the Greece crisis ends here”.5
Unemployment in the Eurozone continues to fall, with the rate for April the lowest recorded in the area since December 2008.6 Investment in the Eurozone also continues to rise, and valuations in many sectors look attractive versus the US.
William Hobbs, Barclays’ Head of Investment Strategy, said: “Continental stocks look to have the most long-term potential to us. European profits are starting out at a lower base compared to other developed stock markets. Therefore, profits have more room to grow should current trends continue.”
Escalating trade tensions, Brexit, and concerns that the new populist Italian government could lead to another Euro Crisis are among the potential headwinds facing the Eurozone.
The Italian government’s ambitious spending plans threatened to blow a hole in the country’s budget, with proposals including a universal basic income, along with tax reductions. However, markets calmed after Giovanni Tria was selected as finance minister and reassurances were given on EU membership and the country’s commitment to the euro.
William Hobbs, Barclays’ Head of Investment Strategy, said: “It is too early to sound the all-clear from populism in Europe, the messy aftermath of the Italian elections sees to that. Nonetheless, the road ahead is certainly not as cluttered with potential electoral landmines as it has been in the past few years.”
Concerns over a global trade war remain however, with US tariffs on aluminium and steel from Europe prompting the EU to retaliate with plans to impose import duties on $3.3 billion worth of US products. There is also uncertainty over what proportion of EU trade quotas will belong to the UK after Brexit.
According to a memo drafted by the European Commission, disputes between the US and its closest trading partners could escalate in the coming months “as more unilateral measures are threatened and imposed, leading, in some cases, to countermeasures.”7 Trade concerns naturally weigh on investor sentiment, which impacts stock prices, providing a backdrop which isn’t conducive for higher equity valuations over the short-term.
“The region’s prospects aren’t harmed by its relative undervaluation, with the Eurozone still looking cheap versus its global peers in a historical context,” said William Hobbs. “At the very least, cheap valuations may help serve as a cushion from further deep price falls. Nevertheless, we think that Eurozone equities are a higher return/higher risk investment opportunity. Therefore, any investment in European equities should be appropriately sized and diversified across a wide range of different companies, sectors and regions, as we are doing within the portfolios we manage.”
European equities should ideally be considered as part of a balanced investment portfolio that includes investments within several geographical areas and different asset classes. Taking this diversified approach may help reduce your exposure to risk and any stock market volatility ahead. However, it’s important to remember that there are no guarantees, and you must be prepared to accept the risk you could get back less than you put in. We don’t offer personal investment advice. If you’re not sure where to invest, seek professional financial advice.
How to gain exposure
Investors looking to gain exposure to Europe may want to consider a fund that invests in companies across a wide range of different European countries, such as the Invesco Perpetual European Equity fund (ISIN: GB00B8N44J10 ) or the BlackRock European Dynamic fund (ISIN: GB00BCZRNN30).
The Invesco Perpetual European Equity Fund’s largest holdings currently include Switzerland-based global healthcare company Novartis, German engineering group Siemens and French multi-national retailer Carrefour. The BlackRock European Dynamic fund’s top holdings include Swiss chemicals and biotechnology company Lonza Group, French electronics and defence company Safran, and Swiss chemicals company Sika.
Please bear in mind that holdings are subject to change and our reference to these particular funds does not constitute advice or a personal recommendation to invest in this or any other investment.
Remember too that investing in shares or funds that are priced in euros exposes you to foreign currency risk. When sterling is weak, your investment will buy you fewer euro-denominated investments. However, lower exchange rates can work in your favour if you already have overseas investments, by increasing their value within an investment portfolio.
Remember, the value of investments can fall as well as rise and you could get back less than you invest. Seek independent advice if you’re unsure which investments to choose.
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