The weakening euro is a major boon for the majority of Europe’s top companies, says Barry Norris, manager of the £330m Ignis Argonaut European Alpha Fund.
Norris, whose fund has returned 79.5% against a median fund average of 39.0% since launch on 12 May 2005 and is top-decile over one, three and five years*, says investors should cheer, not fear, euro devaluation, pointing out that Europe’s exporters, after years battling currency strength, are set to enjoy significantly higher profits as a result of the euro’s slide against the US dollar.
“Concerns over the weakening euro are misguided,” he says. “Europe’s exporters, which make up the majority of the index, warmly welcome any devaluation. These companies have suffered as a result of a strong currency for the past decade, with production costs high relative to competitors outside of Europe, and earnings in dollars considerably lower on a purchasing power parity basis. A strengthening US dollar and a weakening euro will therefore lead to significant improvement in profit numbers for European exporters selling in dollars, even if sales remain the same.”
Zodiac, a French manufacturer of aircraft parts, is a company Norris says is already benefitting from this trend. With all its revenues in US dollars and its costs in euros, Zodiac had to raise productivity significantly over the last decade to remain profitable at €1.50. “With euro now at [€1.24], Zodiac is enjoying a significant windfall”, says Norris. “For every 1% that the euro slides against the dollar, its profits rise 5%. The Argonaut European Alpha Fund is heavily weighted to similar companies set to benefit from the stronger dollar against the euro.”
Norris says investors generally would benefit from looking across the Atlantic when assessing Europe, with most leading European companies generating their growth outside of the Continent. “As UK investors cower at headlines warning of European meltdown, the Europeans themselves are contentedly looking to the US where recovery appears robust,” he says. “Indeed, business confidence indicators show a marked improvement in the last year, with manufacturing orders in Germany, for example, at their highest level on a year-on-year basis for the last two decades.”
“Even at the periphery, companies with a global focus continue to post improving growth expectations”, Norris adds. As an example, he cites Irish company CRH, an international buildings materials supplier, for whom the US accounts for 50% of sales, compared to just 5% in Ireland.
Norris argues that this international focus means the health of the US, which in February 2010 swung back to net job creation, provides a better barometer for the success of European companies than Europe itself. “Europe is essentially a geared play on a US recovery – European stock markets typically rise more than the US stock market when the US enters recovery phase. The knock on effect of the current recovery is already being felt with confidence indicators in Germany beating expectations in March and management carrying out significant inventory restocking, based on the improving outlook.”
Despite these positive signs, Norris points out that the overwhelmingly negative sentiment directed at Europe has resulted in valuations falling to historic lows, with the index currently trading on a multiple of approximately 10 times 2011’s earnings, well below the 14.5 times average for the last 30 years. “This is at a time when all other asset classes, including cash, government bonds, property and corporate bonds, look expensive,” he says. “The premium investors currently receive for holding European equities is, excluding last year, at its highest since the 1970s. With inflation likely to pick up, cash and bonds look even less attractive compared to an allocation to European equities.”
Investors nervous about the risk of default on European sovereign debt and the impact of this on banking systems – the key drivers behind the gloom surrounding Europe – are right to be worried, Norris says, but wrong to extrapolate these problems across the region as a whole. “Taking the so-called PIIGs – Portugal, Ireland, Italy and Spain – as representative of the broader European market is a lazy intellectual argument,” he says. “The PIIGs make up just 20% of the Europe ex UK index, with their respective banking systems just 6% of the index. There are more than ample opportunities elsewhere.”
‘Core’ Europe, in fact, is in “very good shape” Norris argues, as are countries not in the eurozone – notably Norway, which is running a budget surplus, and Switzerland, which is a running a structural surplus. Indeed, he points out that the Euro area as a whole has a more favourable fiscal balance and less net debt than the UK, US and Japan**.
“Weighing up the opportunities across all asset classes, Europe, or more specifically ‘core’ Europe, currently offers some of the strongest opportunities for medium to long-term growth,” he concludes.