20 May 2021
Key points
Despite a weak start to the year, Continental European equity markets have enjoyed a positive start to the opening months of 2021. Strong corporate earnings and improving economic data have supported regional equities, despite rising US bond yields. Investors are now increasingly optimistic, eyeing the sizeable US fiscal stimulus and the vaccination rollout programme. Financials, industrials and cyclical consumer stocks such as autos were the best performers, whilst less cyclical areas of the market including healthcare and staples underperformed.
Cautiously optimistic
While we are optimistic that 2021 may prove a year of recovery, we retain a degree of caution for the year ahead. Valuations appear high and we fear any disappointment in earnings or dividend growth will leave the market vulnerable to a correction. We have also seen significant swathes of fiscal and monetary support from governments and central banks, both globally and within Europe, over the past year. Again, any indication of a shift in policy or support could spark concern.
That said, when it comes to the portfolios’ we manage, we continue to defer to the legendary fund manager Peter Lynch, who opined: “Nobody can predict interest rates, the future direction of the economy or the stock market. Dismiss all such forecasts and concentrate on what’s actually happening to the companies in which you’ve invested.”
As such, we remain focused on the companies in which we have invested and, in particular, on their ability to continue to grow their dividends. As always, we ask ourselves if that rate of dividend growth is already discounted in the share price. We continue to seek new opportunities to add to the portfolio at the right price. This approach has historically served the portfolios well - including through the recent volatility of the last 12 months or so - and we see no reason to change course.
Opportunities in financials
In the more recent risk on environment, the portfolios’ financials holdings have been key performers and we continue to see value in this sector. Over the quarter, we added a new position in Spanish bank Bankinter, which is best-in-class among domestic Spanish banking operators. While this addition further increases our overweight in financials, we have trimmed other positions to broadly maintain the overall exposure.
While banks and insurers were hit hard by the pandemic, we’re seeing a number of attractive opportunities where the earnings recovery is not fully discounted in the share price. The prospect of a return to normal distributions this year is also a tailwind for valuations across the sector.
The largest sector underweight continues to be within industrials. Although we see some very good businesses in the sector, we feel many names that fit our investment criteria are trading on relatively expensive multiples.
Established players
While overall valuations are high, we see a lot of promise in some of the more ‘steady eddy’ names like Nestle or Roche. The market has somewhat discounted the reliable growth of these names in favour of economically-sensitive and more value-oriented sectors like banks and autos since news of the vaccines emerged late last year.
However, there are some signs that inflation is beginning to creep in as a result of the huge monetary and fiscal support received over the past 12 months. Indeed, we are already seeing it in input prices. In such an environment it is precisely those businesses with strong, established market positions and the ability to pass on price increases that are most likely to be able to maintain their competitive advantages.
Staying fully invested
Over the long-term, we remain confident that equities will rise and, as this year has shown already, it pays to stay fully invested, or even modestly geared, through stock market cycles. As the old adage goes: “It’s time in the market, not timing the market, that matters in the long run.”
The roll-out of vaccines is stepping up across the Continent and presents the prospect of a meaningful reopening of services this year. As we look further ahead, we remain positive on the outlook for regional equity markets, particularly for those companies which we feel are attractively-valued and with good prospects for cash generation and dividend growth over the longer-term.
Important information
This information is for investment professionals only and should not be relied upon by private investors. Past performance is not a reliable indicator of future returns. Investors should note that the views expressed may no longer be current and may have already been acted upon. Changes in currency exchange rates may affect the value of an investment in overseas markets. The Fidelity European Fund and Fidelity European Trust PLC can use financial derivative instruments for investment purposes, which may expose them to a higher degree of risk and can cause investments to experience larger than average price fluctuations. The shares in the investment trusts are listed on the London Stock Exchange and their price is affected by supply and demand. The investment trusts can gain additional exposure to the market, known as gearing, potentially increasing volatility. Changes in currency exchange rates may affect the value of an investment in overseas markets. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only.