Could Europe be the next recovery play?

Chris Salih 06/05/21 in Strategy

The Bank of England Monetary Policy Committee (MPC) met this week and decided to keep interest rates on hold, despite signs of a roaring comeback for the UK economy.

In fact, quite a rosy picture was painted of Britain’s short-term economic prospects, with growth expectations upgraded from 5% to 7.25% in 2021*. The Bank of England said that January’s lockdown had been less bad than feared and the economy was now bouncing back faster than expected.

Unemployment was also downgraded with the Bank of England expecting it to peak at 5.5% later this year, compared to an earlier estimate of 7.75%*, and a summer spending boom is predicted.

All of this bodes well for the UK stock market, which has significantly underperformed the global stock market in the past nine calendar years**. But having already enjoyed returns of 10% in 2021**, the good times look set to continue as the economy reopens.

Europe’s recovery yet to happen

Across the channel, things have not been going so well. The first four months of 2021 have been dominated by negative headlines for the Eurozone, as elevated numbers of Covid cases, new economic lockdowns, and the slow pace of vaccinations have seen Europe heavily lag both the US and UK when it comes to any potential recovery.

But when the recovery comes, will it be just as strong? There are reasons to believe it will.

Firstly, the economic data across Europe has also come in considerably better than expected. For example, the IHS Markit Eurozone Manufacturing PMI increased to a fresh record high of 63.3 in April of 2021 from 62.5 in March (anything higher than 50 implies growth). Output grew for a tenth straight month, expanding at a rate unsurpassed in over two decades of survey history***.

Secondly, as a region, it exports heavily to both Asia and the US – areas of the world that are already benefiting from a consumer boom and the relaxation of restrictions. As domestic consumption picks up, so too should earnings. A broad economic recovery would benefit Europe and its plethora of cyclical companies.

Europe has also been perennially unloved – which has resulted in it looking cheap compared to other parts of the globe.

The final reason is the impending approval of the European Recovery fund. This is expected to result in significant fiscal expansion with the monies also boosting economic growth in the next few years.

John Bennett, manager of Janus Henderson European Focus and Janus Henderson European Selected Opportunities, is certainly optimistic. “In terms of the vaccine roll out, Europe is actually now only about five or so weeks behind the UK,” he said. “If you look at the data and ignore the noise I’m very optimistic that you and I will be visiting Europe this year. We will be dining, we will be partaking of some beverages, we will be traveling and we will be doing what consumers do, and that is spending money.”

Hear more of John’s views on Europe in this podcast:

So there are reasons for optimism. Europe is going to be late to the recovery, but it could end up being the place to be when some of its peers start running out of steam.

Three funds for a UK economic boom

Ninety One UK Alpha
The team behind this fund believes that markets are excessively focused on short-term factors and that many analysts concentrate on the next set of results and not where a company will be in five years’ time. This creates opportunities. The majority of the portfolio will be invested in companies with attractive quality characteristics in terms of business model, financial model and management. The strategy will, however, also seek to exploit restructuring/recovery opportunities, shorter term cyclical opportunities and contrarian or ‘hidden gem’ opportunities, provided there is strong valuation support.

Threadneedle UK Extended Alpha
This fund invests primarily in large UK companies, but with an unusual approach. As the name suggests, the manager aims to extend investors’ potential returns by buying stocks he expects to do well and also looking to make money on stocks he expects to do badly (shorting). His long positions will be a combination of three factors. The first is stocks ‘moving forward’ – those offering new products to a market and winning new business. The second factor is out of favour stocks. They will have good long term prospects but are currently under-appreciated. The final factor will be attractive valuations.

Unicorn UK Smaller Companies
This is a small, flexible fund with a solid investment process and a highly competent team. It is also a true small cap fund that invests in genuinely smaller companies rather than mid-cap stocks. All companies must be profitable at the time of investment and while it invests purely in British companies, a current theme in the portfolio is overseas earnings, so a global macro view, together with a view on currency is considered. The fund’s concentration in a small number of holdings allows it to capture the performance from its best ideas.

Three funds for a delayed European recovery

Barings Europe Select Trust
This fund invests in small and medium-sized companies and is run on what is known as a GARP (Growth at a Reasonable Price) basis. The four-strong team has a detailed and thorough process, looking at both the growth and quality aspects of a company before making a bespoke valuation for each holding based on a five year outlook. The European small and mid-cap space is under researched and ripe for good stock pickers. This is where this fund comes into its own.

Jupiter European
The fund managers of this fund try to identify companies with first class management teams, strong business models exposed to the drivers of long-term growth and sustainable returns on capital. When assessing stocks for inclusion in the portfolio, they consider a time horizon of 3-5 years and beyond, focusing on specific characteristics such as barriers to entry, strong branding, the holding of key patents, efficiencies of scale, and existing customers having high switching costs.

Waverton European Capital Growth
This is a high conviction multi-cap strategy focused on finding reforming European businesses, which can create wealth and returns for shareholders. The managers believe that only a third of European companies are run for shareholders. They ignore weaker businesses with poor corporate governance and focus on five key attributes: aligned interests, earnings visibility, pricing power, cash generation and return on capital. They like organic growth and dislike big acquisitions.

 

*Source: Yahoo finance
**Source: FE fundinfo, total returns in sterling, calendar years 2012 to 2021, FTSE 100 and FTSE World
***Source: Trading Economics

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