Five plays on recovery in Europe
May 24, 2006
Rod Marsden, manager of the JO Hambro Capital Management European and Continental European funds tells MoneyWeek where he’d put his money now.
This year has been a tricky one for those trying to read European markets, but I believe a recovery is now coming through thanks to a healthy global economic environment. We have seen, for example, conflicting data on GDP growth, which has been revised both up and down. But I think that, at worst, we’ll get a soft landing in the US and a gentle slowing of growth in China. I’m expecting 2% to 2.5% GDP growth in continental Europe in 2005. European interest rates have been on hold for ages, and, given that there are no signs that inflation is picking up to a level worth worrying about, I see no reason why that should change.
Moreover, the oil price has continued to rise, and no one really knows where that will stop. It is still not entirely clear how damaging the rising price has been, but we do know that companies have been unable to pass price increases on to their customers, so there is currently a bit of a hiatus in terms of earnings. I’m not worried yet. But if the oil price moves to $60 a barrel, I might have to reconsider my stance. For that reason, I am currently focusing on large-cap stocks - they’re easier to get out of than smaller ones, and they look good value on a historical basis.
When we at JO Hambro talk to European companies, we hear evidence of decent growth (earnings were better than expected in the first and second quarters of this year) and rising productivity. Productivity in Europe has been very poor over the past couple of years, but now appears to be picking up. The combination of productivity, growth and low valuations should make Europe more attractive to investors. For the region to see a substantial rerating, however, there would have to be evidence that German consumer spending has indeed bottomed out and is about to revive (Germany is key to the European economy).
One area we particularly like in Europe is the banking sector. Banks are not disappointing the markets - cost-to-income ratios continue to improve and the state of non-performing loans is better than expected. Management seems to have improved, balance sheets are strong, and banks are generally now more focused in their strategy than they were, all of which will lead to good returns and dividend growth. There could also be consolidation in the sector in 2005, although it’s not clear how much will be cross-border.
We particularly like the French banks, and have added to our positions in BNP Paribas (BNPQY), Société Générale (SCGLY) and Credit Agricole (CRARF). French consumer spending appears to be picking up, and this is a good way to play the trend.
There are also opportunities in eastern Europe. Economists are becoming more optimistic about its prospects, and, again, the banking sector is the best way to cash in on this. Consider KBC (KDB) in Belgium, which owns a Polish bank, and Austria’s Erste Bank (EBO), which also has interests in the region.
Ones to avoid are the pharmaceuticals. There has been very little in the way of good news on drug approvals recently, with both Pfizer and Astra Zeneca suffering as a result.
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