The valuation of the Stoxx 600 based on earnings forecasts offers a 30% discount to Wall Street expectations. This gap hasn’t been that big since 2005, but what should be a unique opportunity for investors, with a euro on the floor, can become a death trap. First, because it seems difficult for the S&P 500 to maintain these levels, it is still expensive. And second, because for the experts the harsh winter is not discounted in the earnings expectations of European companies.
Russia’s invasion of Ukraine and the rate rally undertaken by central banks to contain inflation are marking the stock market year. Losses for the S&P 500 are around 20%, while for the Stoxx 600 they are over 17%. The stock market blow has gone hand in hand with the blow to profit expectations. The war has accentuated the cut in expectations of corporate profits in Europe. The profit forecast has plunged nearly 30% for companies in the Stoxx 600, compared with 24% for the S&P 500 this year. This circumstance has opened a large gap in future valuations between the two indices. The 12-month earnings to price ratio has widened to 2005 highs. The Stoxx 600 is being bought at a historic 30% discount to the US benchmark.
But this circumstance includes a double trap that can suddenly make the gap disappear. The corporate profits of European companies are highly exposed to the prolongation of the conflict unleashed by Russia and to cuts in energy supplies. “The European market may be cheaper than the US market, but earnings are more exposed to higher prices and the risk of energy rationing,” said Fabiana Fedeli, M&G’s head of equities and multi-asset investments.
He adds: “While European equities could do well on a long-term view, in the short term I would be concerned about the risk of further earnings cuts and an even weaker euro.” The European currency is trading below the dollar, something that has not happened since 2022. The worst thing is that the market had not yet settled into a prolonged scenario of warfare. . The depreciation against the dollar exceeds 12% this year, which hurts earnings expectations, when compared to the American ones.
Nor does it play in favor of the European stock market that the S&P 500 remains expensive compared to its historical average. The twelve-month profit to price ratio is above 16 times, while the average stands at 15.5 times. The Stoxx 600 is trading at nearly 11 times, below its 13.5 times average.
For Emmanuel Cau, head of the European stock market at Barclays, the big risk is a new cut in profits and he advises his clients not to rush to enter companies on the Old Continent despite the apparent historical opportunity.
“European equities are much cheaper both in relative and absolute terms, but the negative catalysts in Europe are too big right now,” says Florent Pochon, an analyst at Natixis. Experts from the US share this point of view. David Kostin, Goldman Sachs chief strategist for the US stock market, believes that while the outlook for the US economy is uncertain, “the situation in Europe is terrible”, pointing to energy prices and war.
But not all experts are negative. “Most of the damage is done,” defends Ulrich Urbahn, Berenberg’s chief strategist. “In the fourth quarter, there could be very good buying opportunities.”
Facebook Comments
Disqus