European stock markets have been through a particularly tough patch over the last few years, writes Brian McMillian. (AP Photo/Richard Drew, File)

European stock markets have been through a particularly tough patch over the last few years. The Euro Stoxx 50 Index, which tracks the largest companies listed in the Eurozone, is effectively flat since the start of 2015.

During this period there have been a number of moments of optimism when it seemed that markets were set to climb, but these have never been sustained. Investors in Europe have repeatedly been disappointed.

According to Chris Holdsworth, an analyst at Investec Securities, concerns about a global growth slowdown, the escalation of tariff disputes and the clash between Italy and the European Union over the country's budget have all weighed on the performance of European equities over the past year. 

He said that size has offered no defence, as the Euro Stoxx 50 Index has underperformed the broader Euro Stoxx 600 Index over one, three and five years. Large European companies have been hit hard.

This weakness is particularly noticeable when compared against what has been happening in the US. Over the same period, the S&P 500 has gained over 35%.

While this relative under-performance has led many investors to question their allocations to European equities, others are seeing opportunities being presented. These markets are now offering far more attractive valuations than those currently available in the US, or even globally.

Holdsworth points out that the current price-to-earnings (PE) ratio for the Euro Stoxx 50 Index is below 15, its lowest level in the past 5 years. The S&P 500 is trading on a PE of over 21 and the MSCI All Country World Index is at around 17.

This suggests that there are pockets of value to be found in Europe, particularly as economic growth in the region has been steady, despite the political noise.

Holdsworth expects growth of 2% in both 2018 and 2019 for the Eurozone. In addition, the Euro Stoxx 50 is heavily exposed to global growth, which we expect to remain above 3.5% for both of the next two years.

At current valuations, there is therefore an opportunity for investors to find reasonably-priced, quality companies that will continue to generate strong earnings in this environment.

Holdsworth estimates that European equities are pricing in a level of caution that is likely to be unlocked should both European and global growth continue at the current pace.

For South African investors, allocating part of a portfolio to European equities also has additional diversification benefits. With growth in local markets being so weak, it has become important to look for alternatives.

Investors have experienced a few years of very low returns in South Africa. They are therefore looking for areas where there is growth, and we expect to see some of that coming through in Europe.

The majority of companies in the Euro Stoxx 50 Index are also mature, stable businesses with consistent cash flows. While they may not offer the same growth potential as US tech stocks, their performance is likely to be less volatile.

As long as uncertainty in global markets remains high,  investors may still feel wary about being too heavily exposed to equities. Those looking to reduce their risk may therefore be more comfortable using structured products that provide downside protection.

These products allow investors to be exposed to equities, but without carrying all the risk. This provides a lot more certainty when allocating money to international markets.

Structured products are designed to provide capital protection as well as offer the investor enhanced growth on the upside.

Investment and market views expressed are those of the individual and should not be relied upon to make investment decisions.

PERSONAL FINANCE 


Brian McMillan is Investec Structured Products head of sales