Fund manager's comment/Peter Kysel
Macroeconomic conditions in the continental European markets remain positive, with the general feeling that the bottom has now been reached, or is near to trough, and the second half of the year should be more positive.
However, the outlook for the German economy is pessimistic and widespread uncertainty still exists. It is also possible that the picture will change unless the European Central Bank significantly reverses its very tight monetary policy and starts cutting interest rates further in the eurozone markets.
The two preconditions for a better investment environment are lower interest rates and positive comments from companies starting to appear on a more regular basis.
To date, the ECB has been concerned with the inflation rate of 2.6% (much of which is energy related), as its target is 2%, believing that the best monetary policy was to focus on containing inflation rather than managing economic growth. Consequently, the market was caught off-guard by the surprise cut of 25 basis points on 10 May, the first reduction for more than two years, which indicated the ECB's concern over weakening economic data.
Valuations for European equities remain attractive but the factor to watch out for is earnings momentum. European profit announcements are coming in better than in the US but this could be because the European downturn has been delayed.
Stock markets have historically bottomed out four months prior to the economy, which in turn has bottomed out before profits. There are therefore indications that continental European equity markets will have sufficient incentives to generate less volatile and positive investment returns in the second half of 2001.
It is important to monitor developments in the US economy since we believe there is a direct correlation between US and European investor sentiment. The five 0.5% cuts in the short-term interest rates in as many months by the Federal Reserve, to 4%, have so far been insufficient to reverse equity market sentiment and more cuts are needed.
If the current US economic downturn is due to inventory adjustments, and US companies have taken steps to reduce their costs, then we feel that the worst is now behind us. A big obstacle to recovery in the short term, however, is the likelihood of another set of poor Q2 company results, with further instability likely in May/June.
From a sector perspective, we remain fully weighted in healthcare, financials, consumer staples and energy, where the outlook continues to be positive.
We are neutral on technology and underweight telecoms, but will probably go overweight telecoms and technology over the next couple of months since, when the snap back happens, it is likely to be quick and we naturally want to be positioned slightly ahead of the curve.
l European valuations positive.
l European profit direction positive.
l ECB noticing weak economic reports.
Putting the tech into protection
Square Mile’s series of informal interviews
Fallout from Haywood suspension
Launching later in 2019
£80bn funds under calculation