It has been a good year for eurozone stocks. The EuroStoxx 50 is up 15% so far this year, with Germany’s Dax up 13%. After years of being overlooked, it seems like the region has finally begun to shine.
Like many regions, it is hoped that the recovery will gather pace as the year goes on. Europe weathered its vaccination problems relatively well, and now that these programmes are building a decent head of steam the benefits to reopening economies and thence to economic growth should begin to flow through. The European Central Bank (ECB) has maintained a relatively optimistic appraisal of the situation, along with the European Commission, and of course as the economies of the eurozone and Europe generally rebound earnings should begin to feel the benefit too.
It is not just rosy forecasts that are bolstering the outlook – purchasing managers index (PMI) surveys remain robust, and while some loss of momentum is to be expected the readings are expected to remain in expansion territory for the time being. Confidence is also recovering, another vital function, and key exporting nations like Germany will feel the benefit of the recovery in developing and emerging markets.
Compared to their US peers, European stocks are not as expensive either. The MSCI Europe index has seen its price-to-earnings (P/E) ratio rise to 20 - using the cyclically adjusted price to earnings (CAPE) ratio - the highest level in over a decade, but when compared to the US’ figure of 35 the region seems to offer much more for those investors looking for growth at a reasonable price.
Of course, much of the outlook will still depend on other parts of the global economy, most notably the US. The US will still cause the rest of the world to stumble if its economic growth begins to weaken, but for now such concerns are confined to a minority.
Eurozone stocks are not, of course, a single unit. There is a wide dispersion of valuations across sectors and indeed within the sectors themselves. Like stocks in the US and UK, many sectors have already enjoyed strong gains, with much of the ‘good news’ priced in for now. It may take some time before European stocks find a new catalyst to drive them higher, but the steady recovery in earnings should at least provide a foundation for those gains in due course. The summer months could also present a challenge, and might see equities globally struggle to make headway after such a good start to the year. While we might escape a major sell-off, a period of rangebound trading cannot be ruled out.
Central Bank policy cannot be ignored either. The Federal Reserve (Fed) has already begun to shift its language and outlook on inflation and rates, and the ECB may have to follow suit in due course. While it is a long road to actual tightening of policy, the key element will be the direction rather than the destination, which could prompt some volatility for European stocks after what has been a very quiet year so far.
European stocks are well-placed for further gains however in the medium to long term, with clearly-defined trends and a more compelling macro outlook. While some indices sit at record highs, this is more of a sign of strong momentum than anything else, and if recent months are anything to go by, dips will still be bought.