Several factors should continue to support markets this year including positive earnings growth, mer...
Several factors should continue to support markets this year including positive earnings growth, mergers and acquisitions (M&A) and strength in the domestic economy.
However, there are several risk factors outside Europe, not least the possibility of a hard landing in the US. Also, while valuations on an earnings basis are still looking reasonable, price to book valuations are looking a bit stretched and we could see further short-term volatility.
With this in mind, across all our portfolios in recent months we have been switching towards larger, more stable companies with greater visibility of earnings, which will be able to perform well through all stages of the economic cycle.
Several positive factors should continue to support European markets in the period ahead. Most importantly, earnings growth is still coming through, albeit more slowly year on year than we have seen over the past two to three years.
Fourth-quarter numbers were good. While there were a few disappointments, the corporate environment remains sound.
Liquidity is strong with cashflow yields still high and interest rates accommodative, while M&A also remains a key driver. Private equity groups still have a lot of cash needing to find a home, while we are seeing a lot of activity from corporate buyers. In addition to any number of rumours occupying the market on a daily basis, in the past couple of weeks we have seen actual deals coming through in tobacco.
While any further slowdown in global growth will affect European companies, consumer demand across the region is finally expected to pick up some of the slack from the weakening export growth, especially as employment conditions have got better.
However, a key difference to the short-term correction we saw last summer is the fact that we are further down the road in terms of the economic and profits cycle.
The US economy has slowed further, while the earnings cycle may be nearing its peak in Europe. Although we believe the economic recovery across the eurozone provides a positive tailwind, several risk factors outside Europe could affect markets this year.
While valuations on an earnings basis are still looking reasonable, asset base valuations are looking stretched. We are nearing the top of the earnings cycle, so any slowdown in earnings from here will push the price/earnings valuation of the market up.