We think it’s remarkable that European corporate earnings should still be 48% below pre-financial crisis peaks given these positive macroeconomic factors. By comparison, US earnings are around 16% above of their pre-crisis high in 2008.
In our eyes, that spells potential opportunity.
But in order to explore that opportunity, we need to understand why earnings in Europe have fallen behind those of the United States.
We see a big discrepancy. Although top-line European sales and revenues have recovered, earnings have not. That poses some questions. Are European companies less competitive? Is the European Central Bank’s stimulus programme less effective at filtering into the wider economy than the US Federal Reserve’s programme?
The answer seems to be in the profit margins of European companies.
As we’ve noted in the past, European companies tend to be price-takers. When inflation falls, European firms tend to cut prices to compete with their US and Asian peers. When inflation rises again, European companies tend to raise their prices.
Therefore, once European companies respond to rising inflation, we’d expect a closure of the earnings spread with the United States.
And as individual stocks’ fundamentals re-emerge as a differentiator in performance, we think active management can really show its value. Our analysis suggests this may already be happening.
The comments, opinions and analyses expressed herein are for informational purposes only and should not be considered individual investment advice or recommendations to invest in any security or to adopt any investment strategy. Because market and economic conditions are subject to rapid change, comments, opinions and analyses are rendered as of the date of the posting and may change without notice. The material is not intended as a complete analysis of every material fact regarding any country, region, market, industry, investment or strategy.
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What Are the Risks?
All investments involve risks, including possible loss of principal. The value of investments can go down as well as up, and investors may not get back the full amount invested. Stock prices fluctuate, sometimes rapidly and dramatically, due to factors affecting individual companies, particular industries or sectors, or general market conditions. Value securities may not increase in price as anticipated, or may decline further in value. To the extent a portfolio focuses on particular countries, regions, industries, sectors or types of investment from time to time, it may be subject to greater risks of adverse developments in such areas of focus than a portfolio that invests in a wider variety of countries, regions, industries, sectors or investments. Special risks are associated with foreign investing, including currency fluctuations, economic instability and political developments.
1. Source: FactSet, MSCI. As at September 30, 2017. European Value is represented by MSCI European Value Index and European Growth is represented by MSCI European Growth Index. MSCI makes no warranties and shall have no liability with respect to any MSCI data reproduced herein. Past performance is not an indicator or a guarantee of future performance. See www.franklintempletondatasources.com for additional data provider information.
2. Standard deviation is considered a measure of volatility, representing deviation of a set of data from the mean.