How can investors navigate the choppy waters of European politics?

Darius McDermott
PVV Candidate Geert Wilders Addresses The Crowds At Campaign Rally
Geert Wilders of the Netherlands' Party for Freedom. The national elections are tomorrow (Source: Getty)

Remember this time last year, when Brexit was an outside chance and not many Brits really believed Trump could convince half a country to vote for him? They’re saying much the same thing now about France’s Marine Le Pen and Geert Wilders of the Netherlands, but I think we’ve all learnt to take the polls with a pinch of salt.

Is our saline diet hurting our investment returns though? Some clients I speak to have become so convinced that the EU is on the brink of disaster, they are avoiding Europe completely this Isa season.

I understand their reservations. No-one wants to be caught out if markets take a tumble on the back of far right victories in either the Netherlands tomorrow or France in May, which could spell serious trouble for the Eurozone and the euro.

The trick to successful investing, however, is to strike the right balance between risk and returns – and Europe has its fair share of both right now. To help you decide, I’ve taken a look at three reasons to be careful and three reasons to be optimistic.

Three reasons to be careful

Politics. The Netherlands tomorrow will be the first of three major Eurozone countries to hold national elections in 2017. Geert Wilders and his Party for Freedom have said they want an EU membership referendum. Most commentators believe his chances are low but, even so, Wilders is expected to take several seats from centrist parties. In short, the problems don’t just go away on 16 March, no matter who becomes the next Dutch Prime Minister. Ditto for France and Germany, I’d say.

Politics. EU politics also threaten to overwhelm economic progress, as Brussels begins Brexit negotiations. Wanting to deter their own populist voters, many politicians will be pushing to make sure Britain doesn’t get too good a deal. We’ve talked a lot about potential impacts on this side of the Channel, but of course altered trade relationships with the UK may affect European companies too.

And politics! No changes to monetary policy were announced by the European Central Bank (ECB) last Thursday, but president Mario Draghi was keen to highlight Europe’s positive economic progress. Reportedly, some ECB board members are now keener than others to talk about reducing stimulus or even raising rates. The ECB’s bond buying programme has supported European equity markets over the past couple of years, and while a dial down would be a nice sign of confidence, there would undoubtedly be an adjustment period.

Three reasons to be optimistic

Inflation in every Eurozone economy – and for the first time in nearly four years. While there is still quite a bit of discrepancy between rates – for example, Belgium’s headline inflation for the year to 31 January was 3.1 per cent, while Ireland’s was merely 0.2 per cent – the overall move away from deflation has boosted confidence and should have a tangible, positive impact on economic growth too.

Higher earnings expectations. Higher inflation has also contributed to higher earnings expectations for companies across Europe. Over the past few years, businesses have had to keep their prices low to maintain volume growth in a deflationary environment and company earnings have been largely flat since 2011. If inflation continues to pick up, however, pricing and profit margins should also improve.

Stock market valuations remain attractive. Or in other words, European shares are reasonably “cheap”. The overarching reason for this is of course that markets are currently pricing in all the political risk we’ve already talked about. Relative to other major developed markets, however, such as the US and the UK, which have both been trading around record highs, there may be some very attractively priced stock opportunities in Europe, particularly for long-term investors who are happy to ride out volatility.

Three funds to get exposure

If you want to get some of Europe’s largest companies, you may like to consider Henderson European Selected Opportunities, which holds around 50 to 65 mega and large-cap stocks. Manager John Bennett looks at sector trends when deciding where to invest, which helps him identify pockets of opportunity around the region.

Or if you’re comfortable taking on a bit more risk for the extra growth potential of smaller stocks, Mirabaud Equities Europe Ex UK Small & Mid looks for the hidden champions that other funds may have missed. Manager Ken Nicholson is a European smaller companies specialist with a commitment to getting out on the road to find his companies.

Meanwhile, for a bit of everything, BlackRock Continental European covers your bases. BlackRock’s European equities team are known as one of the best in the business and this fund epitomises their structured approach to analysis and portfolio construction, making it an excellent core candidate.

City A.M.'s opinion pages are a place for thought-provoking views and debate. These views are not necessarily shared by City A.M.

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