European stocks are likely to deliver good returns for investors willing to put up with the political turmoil that is in store for this year, if interest rates have bottomed, a fund manager focused on the Continent has told TheStreet.
Year to date, the STOXX Europe 600 index is down 1.58%, compared with the S&P 500's 5.65% advance. The benchmark is representative of large cap as well as medium and small caps in 17 European countries: Austria, Belgium, Czech Republic, Denmark, Finland, France, Germany, Ireland, Italy, Luxembourg, the Netherlands, Norway, Portugal, Spain, Sweden, Switzerland and the United Kingdom.
"You go into 2017 with Europe out of favor; it's a good sign," John Bennett, who manages €10.7 billion ($11.2 billion) as part of Henderson's pan-European equity team, told reporters in London. "I think Europe will defy the pessimists to climb the 'Wall of Worry'."
Investors are faced with political turmoil created by elections in three core Eurozone countries this year: the Netherlands in March, France in April and May and Germany in September. Populists have risen in opinion polls, and even though they are not forecast to sweep to victory, the mistaken predictions for the outcomes of Britain's Brexit vote and the U.S. presidential election have raised doubts about the accuracy of pre-election polls.
Bennett has been shifting his fund into value from growth starting last year, and accelerated the shift in the second half of the year. "The value markets of the world, very broadly speaking, are Europe and Japan rather than the S&P."
"We bought value because we think the air was getting thin," he added. "You've had a one-way street in favor of growth, low volatility and quality."
Growth has been scarce in Europe, in his opinion, therefore the quality stocks have become expensive.
"In recent years, people who bought Europe, didn't buy Europe. They bought high quality bond proxies that happened to be based and listed in Europe. I think it's now time to come to the stuff that's less easy and comfortable to own in Europe."
He noted that expectations for inflation in the currency area were too low, and this signals that interest rates have bottomed. "I do think we're coming to the end of the bond bull market. You have to wonder whether we're coming to the end of the bond proxy boom."
Bennett said that Europe "usually gets into favor very late". He predicted that asset allocators, especially U.S.-based ones, will only start buying after European stocks have already risen by around 10%.
Investors' focus on the French election, which has raised fears that right-wing, anti-euro candidate Marine Le Pen becomes president, is the wrong one, as the focus should be on Italy, with its bad debts and weak banks.
The euro is too strong for Italy, which has been suffering internal adjustment with its economy shrinking and banks laden with nonperforming loans. However, it is very difficult for asset managers to position for the event in which Italy's economy collapses and it leaves the euro.
"It's just too binary. If Italy blows up, name your portfolio," he said, noting that all assets are likely to fall in the ensuing panic. "Every financial market on the planet would tank, because this is so big. I've learned to never set up a binary portfolio, because it might never happen."
He noted that back in 2011 fears that the Eurozone would collapse under the weight of its debt crisis were running high, and that turned out to be a great buying opportunity for European assets.
"Europeans love to serve up eurofudge; they kick the can down the road, and off we go again."
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