In the past few years, Europe had been one of the markets’ favourite regions. Global investors had hoped that the economic recovery in the region, fuelled by accommodative monetary policy and a competitive currency, would be reflected sooner or later in company earnings and thus allow European markets to catch up compared with other major developed markets, such as the US.
However, since the beginning of 2016, it seems that many investors have lost that hope, or at least their patience, with European equities suffering seven consecutive months of outflows since February 2016 and most asset allocation surveys showing that Europe is no longer the preferred market for investors.
It is true that concerns have increased since the beginning of the year, whether over low inflation, the problems faced by the banking sector, anaemic corporate earnings growth, or the impact of Brexit. However, while these concerns are legitimate, they often obscure the underlying economic reality, which is much more encouraging. We remain convinced that, despite Brexit, the European economic recovery will continue to offer many opportunities in both the equity and bond markets for long-term investors.
Despite the uncertainties surrounding the UK referendum, the European economy recorded its 13th consecutive quarter of positive growth in the second quarter of 2016. Growth has certainly slowed from the first quarter of the year, reaching 0.3 per cent against 0.6 per cent previously, but this was nevertheless in line with the average since 2000, which is 0.25 per cent.
While the fears caused by Brexit probably weighed on growth, the impact has been very limited. Moreover, it seems that the real reasons for the observed slowdown in the second quarter are to be found elsewhere. Although many European countries have recorded a sound economic performance – such as Spain, the Netherlands and Germany, which posted growth of 0.7 per cent, 0.6 per cent and 0.4 per cent respectively – the French and Italian economies, Europe’s second and third largest, saw their economies stagnate in the second quarter.
In the case of France, the reason is known. The French government’s desire to reform French labour laws to make the labour market more flexible triggered a major strike that hindered the country for several weeks. Besides the generally robust gross domestic product growth figures, most economic indicators published in the second quarter proved better than expected.
The political and economic future of Europe remains uncertain, but this has been the case throughout all stages of the European project. Besides, what other major global economy today can claim to provide more certainty in political and economic terms?
Paradoxically, the outcome of the UK referendum has awakened some support in Europe for the union, both from its citizens and from its politicians, with Angela Merkel, Francois Hollande and Matteo Renzi agreeing further initiatives this summer to give Europe new momentum. So, despite the result of the referendum, economic sentiment has remained relatively stable, and the European economy should therefore probably continue to grow in the coming quarters.
This broadly favourable economic outlook should support European financial markets, which are also being boosted directly and indirectly by the monetary, fiscal and structural reform measures taken in Europe in recent years. Therefore, assuming the US and broader global recovery remains on track, we believe European financial markets continue to provide attractive long-term upside potential.
Nandini Ramakrishnan is global market strategist of JP Morgan Asset Management
