The current environment is clearly very difficult for equity markets. Nevertheless, we believe Europ...
The current environment is clearly very difficult for equity markets. Nevertheless, we believe European markets are good value relative to cash and bonds and that these poor market conditions present good opportunities for stockpickers.
Investor confidence around the world has taken a substantial hit from accounting irregularities that have been discovered at Enron, Merck and WorldCom.
Companies in the US have been given until 15 August to confirm the accuracy of their financial statements ' it would be unwise to rule out the possibility of further cases of dubious accounting coming to light in the meantime.
Sentiment will not change overnight but the passing of this deadline, as well as other measures being taken to bolster accounting regulations, should help restore some confidence in equity markets. The accounting issue would seem to be essentially a US phenomenon. That said, various European companies have been hit by suggestions of illegal accounting, and this has driven certain stocks down to very attractive levels.
News of a Commission des Operations de Bourse investigation into Vivendi Universal's accounts, as it happened a routine matter, contributed to the sharp under-performance of the shares, putting the company at a substantial discount to our view of its intrinsic business value. Companies such as Altran and Elan have also been negatively impacted by concerns over the quality of their accounts.
Poor market conditions have made it extremely difficult for companies to tap the stock market for funds (witness the number of Initial Public Offerings that have been cancelled), and with banks becoming increasingly risk-averse in the wake of some extremely large corporate failures, many companies have run into liquidity problems.
A more cautious approach from ratings agencies such as Standard and Poor's and Moody's is compounding the difficulties faced by companies with stretched balance sheets.
The result is that such companies are being forced into fire sales of assets in order to raise funds to reduce short-term debt.
Vivendi Universal placed a large part of its stake in its utility subsidiary, Vivendi Environnement, at a knockdown price, while Zurich Insurance had to sell off its reinsurance business, now known as Converium. Rumours abound that the heavily indebted Deutsche Telekom will have to sell its US mobile operator, Voice Stream, for a price that could be as little as a quarter of that originally paid just a few years ago.
For investors who do not hold shares in companies that are being forced to sell assets, such fire sales are good news as it is allowing them to pick up quality assets at substantial discounts to fair value.
While investors' fear of owning the next Enron or WorldCom means that the shares of some companies are being driven down to bargain prices, going forward, it is probable that companies whose accounting is the most transparent will be rewarded with higher price-to-earnings ratios.
Companies with strong balance sheets and robust cashflow are likely to be sought after.
European equities are good value.
Interest rates are likely to remain low.
Fiscal easing by European governments.