“European equities and the euro have enjoyed an exceptional period of outperformance since October 2022 while maintaining an attractive valuation,” observed Mathieu Savary, chief strategist, Europe at BCA Research.
Since October 2022, the EUR/USD has appreciated by 10%. The performance of European equities mirrors that of the currency: the MSCI Eurozone index has jumped 20%, “more than any other major market in the world”, Savary said.
Since the beginning of the year, eurozone shares have risen by 5%. If you look at the MSCI Eurozone Index in USD, the increase is 32%. “This performance is in contrast to the last 15 years of euro depreciation and underperformance of European equities. It is therefore not surprising that a growing number of investors are asking whether the last 16 weeks mark the end of structural weakness in European assets.”
The European economic backdrop suggests that there is more room to reprice European assets to the upside during 2023.
While he analyses this rebound more as “a short-term hedging rally rather than a period of euphoria”, he believes that “the European economic backdrop suggests that there is more room to reprice European assets to the upside during 2023”.
However, Savary expects European assets “to have to digest the acceleration of their recent surge” and expects a period of correction in the coming weeks that “will not halt the uptrend in European equities and the euro that began in the third quarter of 2022.”
The Euro Stoxx 50 is expected to correct towards 3,700 and the EUR/USD towards 1.03. “As these moves are just a bottom in a broader uptrend, investors with a 12-month investment horizon and already holding these assets should stay invested and buy hedges, such as EUR/CHF shorts, long defensive stocks or puts, which are trading cheaply. Investors should also wait for technical indicators to ease before deploying more cash into European assets.”
Despite this period of “short-term” stock market volatility, he expects “European growth to continue to surprise on the upside in 2023.”
Euro at fair value
“The ability of the European economy to remain resilient depends on lower inflation,” which Savary believes is underway. “Eurozone inflation is coming down, which is something that helps boost consumer confidence and their ability to spend. European households suffered a brutal 7% cut in real wages last year, which depressed sentiment and prevented consumption from being as strong as it could have been. In other words, lower inflation is essential to release the savings accumulated in Europe over the past three years and will allow Eurozone consumer confidence to reach an inflection point. This will be a key ingredient in boosting the attractiveness of European assets in 2023.”
As a result, Savary stated, “we will see a continued revaluation of European assets relative to US and global assets.”
For the single currency, he expects the EUR/USD rate to rise above 1.15 later this year. In his view, the euro’s price will be supported mainly by “the return of its fair value”. Indeed, he believes that the currency is currently undervalued by more than 20%; by the improvement in the European balance of payments and by the fact that the euro is a growth-sensitive currency.
As for equities--including those in the UK and Sweden--their momentum will be driven primarily by the fact that they are “very cheap”, he said. “Despite their recent recovery, eurozone stocks are trading at 12 times forward earnings, 30% below US multiples and 11% below their 10-year average. The weakness in European equities not only reflects the collapse suffered last year, but also the rapid rise in European incomes, which is outpacing the movement in share prices.”
Lower global macro volatility, an improving economic outlook and renewed investor optimism about the EU’s economic management will be, Savary said, “important tailwinds that will allow these assets to advance over the course of the year. They are affordable and benefit from a favourable economic backdrop that will allow investors to revise upwards their perception of the attractiveness of European assets.”
This article was published for the Paperjam+Delano Finance newsletter, the weekly source for financial news in Luxembourg. Subscribe using this link. Read the original French version of this article on the Paperjam site.