European economic data has been surprisingly good recently, but most investors are still fairly bullish. If anything the strong performance has made people more bullish because they think any value that may have been in the market has already gone. Dennis Jose and Joao Toniato at Barclay’s Equity Research group argue that Europe is seeing a cyclical recovery that will beat most pessimistic expectations.
“We reiterate our long-standing bullish stance on European equity markets, where profitability is bottoming, valuations look cheap and positioning seems sparse,” they write, explaining that they are really only recommending EU-leveraged cyclicals.
EU banks still overweight
Their key observation is that earnings momentum seems to be the driving factor behind European performance sector by sector, and looked at this way there is plenty of value still available. “While some EU-leveraged cyclicals such as Industrials, Media and Travel & Leisure now look relatively expensive, others such as Autos, Banks, Insurance, Fin Services and Construction, in our opinion, still provide decent value,” they write.
Baupost's investment process involves "never-ending" gleaning of facts to help support investment ideas Seth Klarman writes in his end-of-year letter to investors. In the letter, a copy of which ValueWalk has been able to review, the value investor describes the Baupost Group's process to identify ideas and answer the most critical questions about its potential Read More
Jose and Toniato still like financials, remaining Overweight on EU banks, insurance companies, and other financial services. Banks appear to be coming out of a recent trough at just at the beginning of at least a temporary recovery.
Barclays PLC (NYSE:BCS) (LON:BARC) auto industry analyst Mike Tyndall has upgraded the sector from Neutral to Overweight because the fundamentals appear to have stabilized, and could even surprise to the upside in the next few quarters. “We do acknowledge that the sector has already outperformed the STOXX 600 year-to-date, and it may be ripe for a tactical pullback,” say Jose and Toniato. “However relative valuations for the sector are still near 25-year lows.”
New car sales also tend to track consumer confidence, which has been increasing in Europe and the rest of the developed world.
Jose and Toniato have been waiting for European oil and gas to rise since the beginning of the year, only to see it drop further, but they insist that it must eventually rebound. “The relative PE of the Oil & Gas sector versus the market is now at a 23 year low,” they write. “Could we be nearing an inflection point? Our Oil & Gas research team highlights that the benefits of CAPEX over the last 2-3 years should come through, with production growth finally turning positive 2014 onwards.”
Barclays ‘underweight’ on food, household, staples
But not every industry presents attractive options for investors. The chemicals sector is more tightly correlated to emerging markets than to Europe, and will drop accordingly as investors move their money back to the West. The slowdown in China will also hurt profitability. Staples tend to underperform the market when data improves, and the two analysts call it Underweight while Europe is in the process of revering. They also remain Underweight on Food and Beverages, and the Personal and Household Goods sectors.