September 9, 2013 5:04 pm

Eurozone stocks shed country risk burden

The map of Europe on the face of a two Euro coin©Reuters

Investors in Europe can put away their maps. After the eurozone crisis erupted almost four years ago, where a company was based suddenly mattered – crucially if investors feared a country would exit Europe’s monetary union.

When the crisis was at its most intense, country risks exceeded sector risks as factors explaining pan-European share price moves, according to an analysis by JPMorgan Asset Management.

European equities and industries

European equities and industries

That has now gone into reverse. As European shares have surged over the past year, country considerations have declined in importance to levels not far above those in the early years after the euro’s 1999 launch. The FTSE Eurofirst 300 is up 20 per cent since Mario Draghi, European Central Bank president, pledged in July 2012 to do “whatever it takes” to ensure the eurozone’s integrity.

“When we were really fearful of a collapse, it was really important that you were not investing in Greece or wherever,” says William Davies, head of global equities at Threadneedle. “If we’re on a more level footing, it is going to make much less difference.”

But as investors increase their exposure to Europe – US investor inflows into European stocks in the first half of 2013 were the largest since 1977 – strategists remain unsure just how important geography will be in the future.

“We’re not where we were a decade ago, when we thought we didn’t need to worry about country risk – which was naive – but nor are we where we were in 2010 to 2012 when everyone was worried about the eurozone breaking up,” says Michael Barakos, head of European equities at JPMorgan Asset Management.

The euro’s architects envisaged the currency would create a single European financial market. Progress became apparent in the late 1990s as investors started to think of Europe in the way they might the US. “We thought of Europe as the united states of Europe,” recalls Mr Barakos.

Trying to disentangle the factors affecting European share prices is not easy, however – and is controversial among statisticians. Long-term comparisons are distorted by the late 1990s “dotcom” boom in telecommunications and computing, which inflated the relative importance of sectors in driving share prices.

Conversely, some strategists are not convinced that companies’ nationality was really so important during the region’s recent debt crisis – especially for larger companies trading beyond national and European borders.

“I’ve long thought sectors were more important than countries. It is true that during the eurozone crisis, countries did matter more – but that was really just for the smaller countries,” says Peter Sullivan, head of equity strategy at HSBC. “In emerging economies in Asia it is a different story – there countries do matter a lot.”

The top performing European equity market sector so far this year has been technology hardware, covering companies such as Nokia and Ericsson. Close behind have been semiconductor companies such as Infineon, and media groups such as ITV or ProSieben.

Moreover, argues Gareth Evans, equity strategist at Deutsche Bank, looking at just countries versus sectors is a simplistic way of viewing Europe. “There is rarely a situation where one particular style, such as a country approach, dominates in such a way as to make others redundant. They often blend together,” he argues.

When Europe was in recession, Mr Evans points out, investors’ preference for “defensive” stocks – rather than “cyclicals” which fare better in an upswing – resulted in the outperformance of Swiss equities, which were skewed towards pharmaceuticals and food sectors. Similarly, German and Swedish shares benefited when investors looked for companies with exposure to the global economy.

But it makes sense for investors to focus less on countries if the eurozone is now stabilising. Break-up fears have receded and the region’s economies are slowly returning to growth.

One recent trend, says Nick Nelson, global equity strategist at UBS, has been the underperformance of companies most exposed to the region’s economy – which could present buying opportunities. Companies most reliant on eurozone sales include banks and finance groups such as Italy’s Mediobanca and Germany’s Deutsche Börse, as well as energy and utility companies.

“The fall in volatility makes it easier for global investors to take a ‘bottom up’ approach to picking stocks, looking less at country of origin,” Mr Nelson argues.

Graham Secker, European equity strategist at Morgan Stanley, adds: “Sectors mattered a lot in the 1990s. Country factors were particularly important in 2010-12. This year it is more stock specific – people are looking for restructuring stories at the company level. They are less likely to take a sweeping view on the future of Europe.”

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