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Markets: Factor research signals reduced faith in forecasts

Markets_forecast‘High beta’ stocks – those more sensitive to market changes – performed best in Europe last year, particularly after a strong fourth quarter when Brexit uncertainty receded and ‘risk-on’ prevailed in stock markets.

However, stocks labelled as ‘quality’ – based on factors such as stability of sales – also performed positively during the full year.

The presence of the high beta investment factor in the final quarter showed how UK and mainland European investors were acting on clarity surrounding Brexit following the UK’s general election, said the ‘Q4 2019 Markets Factor Analysis’ by Style Analytics.

However, there was also some strength seen in value and quality stocks in the final quarter, showing that ‘risk-on’ was not the only pattern.

The two weakest European factor measures in the final quarter were ‘forecast-earnings-growth’ and ‘revisions-to-forecast-earnings’. The significance of this is that it may show that European investors are losing faith in sell-side analyst research, say report authors Bernie Nelson and Tom Idzal.

This is because forecast-earnings and revisions to forecast earnings are factors supporting growth and momentum styles, respectively. But they are based on analysts’ forecasts and not on realised results, so when this is combined with the overperformance of known fundamentals such as earnings growth over the past five years, it seems that Europe could have “swung away from promises and toward demonstrated performance”.

Over the full year, factor informing the quality style performed well across the board in Europe, whether defined by profitability, stability of earnings or sales, or by low financial leverage.

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