Thursday 28 Mar 2024
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European corporate earnings look poised for recovery and could even surpass those in the US, according to Schroder Investment Management.

“It is clear that European equity valuations have recovered from their crisis levels. The 12-month forward price-earnings ratio of the Morgan Stanley Capital International (MSCI) Europe index is around 14.5 times, which is above its average since 2003. 

“Though they may not be cheap compared to their own history, European equities continue to look attractive versus other asset classes and other regional equity markets,” Schroders said in a report dated March 2.

An important point to note about European equities is that the share price gains over the past couple of years were driven by a relief rally, as fears over a eurozone break-up subsided. 

However, corporate earnings in Europe remain at very depressed levels. While US earnings are around 13% above their previous peak, eurozone earnings are languishing at around 32% below their previous peak, noted Schroders. 

“We would argue that the conditions are in place for eurozone corporate earnings to surpass the US this year and drive the next phase of share price gains,” Schroders said, adding that a major factor that can support a eurozone recovery is the plunge in oil prices as it has lowered petrol prices as well as the cost of goods.

“Our calculations suggest that the price fall represents a €1,000+ boost for each European household, the equivalent of a massive tax cut.”

Schroders said the weaker euro relative to the US dollar makes for a more benign backdrop for many eurozone businesses, and funding costs have fallen significantly, giving a boost to small and medium enterprises.

“We think these factors have in effect ‘short-circuited’ the economic cycle and have taken us back to the recovery phase,” Schroders said.

Schroders also said bank earnings, which have been under pressure, look poised for an improvement this year. 

A survey has shown that credit conditions are now easing in the eurozone after the twin credit crunches of the global financial crisis (2008-10) and the eurozone crisis (2012-13). Leading indicators such as consumer and business sentiment surveys are supportive of a pick-up in capex growth, though this has not materialised yet. 

After recent underperformance and given a likely pick-up in the economy, as well as the attractive dividends on offer, Schroders now has a preference for higher quality banking stocks as they are seen as having the greatest potential for earnings recovery.

“All in all, we think European equities remain attractive and there are plenty of opportunities to be found. There are certainly risks to our outlook… However, our core view is that in a non-crisis environment, earnings can recover, corporates will resume spending and we should start to see a normalisation of the business cycle.”

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