European politics: A distraction or disaster for markets?

Le Pen the biggest headwind

Tom Eckett
clock • 6 min read

While 2016 was dominated by the Brexit vote, Donald Trump's US Presidential Election victory and Italy's referendum, fund managers have warned geopolitical risks remain high in 2017 - particularly in Europe.

James de Bunsen, multi-asset fund manager at Henderson, added the team is "reasonably constructive" on European equities. 

"Valuations are good relative to the US in particular, and the underlying data is good. There have been earnings upgrades helped by a weaker euro but also by some economic momentum. There would be more of a worry if election volatility was not already priced in."

Nangle highlighted that in Europe, unlike the US, companies are unable to downsize their workforce in periods of weak growth, due to existing structures and regulations. 

As a result, when there is some good data in terms of economic activity this will have a big positive impact on the bottom line for European firms: "But so far, this has not been rewarded by the markets." 

Nangle added: "As we go through the elections and the black swan events do not occur, then there will not be a need for a risk premium. Therefore performance, which has not been as strong as the fundamentals suggest, will start to catch up." 

Stability index

Meanwhile, Charles Stanley's recently launched Political Stability Index (see below), which measures a range of political risk factors for a number of major developed stockmarkets, highlights Europe as a weak spot but suggests political parties can 'muddle through'.

Developed by the firm's Investment Committee, the index measures government stability by evaluating the polling share of the two main political parties in each country.

The index assigns a higher political instability score in countries where the main political parties are unable to form governments and are forced to negotiate coalitions. 

When the polling share of a country's two main political parties falls below 65%, this indicates more political instability while a share of 50% or below means it is unlikely a country will be able to form a government.  

John Redwood, chief global strategist at Charles Stanley, said: "The first figures for the Charles Stanley Political Stability Index show good numbers for the US and Canada, with the UK also in a reasonable position, but the continental European indices are all weak, with France particularly low at under 50%. 

"However, we are currently assuming difficult continental politics are not about to derail the euro and the EU. We assume they will muddle through again.

"The forces against Le Pen have a large majority in the second round polls. Meanwhile the euro area economies are growing a bit faster, and some of the banks are now mended, which is positive." 

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