Funds Europe talks to Andreas Wosol about the implications of a return to reflation and why the value part of the European equity market could support investors in such an environment.
Years of disinflation in developed markets appear to be finally giving way to more positive economic conditions. The second half of 2016 showed rising consumer confidence and economic growth, setting the scene for an increase in interest rates and a return to a reflationary environment. This is welcome news for investors of European equities in particular, says Andreas Wosol, Senior Portfolio Manager for European Equity at Pioneer Investments. A reflationary environment has the potential to increase dividends, earnings and share prices.
Furthermore, European equities have a strong correlation to rising US interest rates and a wider dispersal of valuations than the US market that should expose a number of undervalued stocks as prices start to normalise. There is also a high level of procyclicality in the European market with a number of well-established industries that will enjoy higher corporate earnings in a reflationary environment.
We are currently halfway through first quarter earnings season in Europe and many companies have delivered the best figures in seven years, many of which have occurred in cyclical sectors. A continuation of this trend should see a re-acceleration of the reflationary trade, and within that, the likelihood of outperformance of European value stocks once more.
As investors endeavour to build portfolios that will be resilient and generate returns in this new market environment, they would be well-advised to consider European value stocks, says Wosol.
Funds Europe surveyed 51 readers* and the results supported this to some degree. When asked to name the asset class that would deliver most value in a reflationary environment, a third of respondents identified European equities. However, it is likely that many portfolios remain underweight in European equities, says Wosol, given that economic conditions have not favoured this asset class and the current reflationary trends are only beginning to show.
The survey also shows though that just under half of respondents have made no change to their portfolios to protect against rising inflation and just 6% have increased their allocation to value equities. This is surprising, says Wosol, given that the market normally acts on expectations as opposed to waiting for the evidence of an economic upturn and reflationary environment that have been evident in recent months.
The most likely explanation, says Wosol, is that after so many years of being risk-averse, some investors may find it difficult to change and will need to be convinced that the recovery is genuine and sustainable. There are also some lingering political risks, despite the recent election victory in France of pro-EU centrist Emmanuel Macron, and that is stopping people making big asset allocation changes, says Wosol.
“One of the risks to value investing is to just look at the price of the asset and not pay due consideration to the actual value of that company. Sometimes companies are considered ‘value’ for a reason, because the business model is broken. To really participate in this opportunity, investors should combine value with earnings potential.
“The sweet spot for the next stage of value outperformance will be identifying those companies that offer significant upside but can also demonstrate the ability to deliver sustainable earnings. This is more likely to be stock-specific than one particular sector.”
*survey conducted between 24/04/17 and 09/05/17
Disclaimer: Unless otherwise stated all information and views expressed are those of Pioneer Investments as at 16 May 2017. These views are subject to change at any time based on market and other conditions and there can be no assurances that countries, markets or sectors will perform as expected. The content of this document is approved by Pioneer Global Investments Limited. In the UK, it is approved for distribution by Pioneer Global Investments Limited (London Branch), Portland House, 8th Floor, Bressenden Place, London SW1E 5BH. Pioneer Global Investments Limited is authorised and regulated by the Central Bank of Ireland and subject to limited regulation by the Financial Conduct Authority. Details about the extent of our regulation by the Financial Conduct Authority (“FCA”) are available from us on request. Pioneer Investments is a trading name of the Pioneer Global Asset Management S.p.A. group of companies.
©2017 funds europe