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Into the summer: where are the summer temperatures for investors?

Editorial by Thomas Meier and Christos Sitounis

The summer is just around the corner and equity markets are heading towards new highs. However, there is little sign of summer highs across the board. Individual names and sectors, especially the technology sector in the US, are setting the tone for the summer at the moment. Rays of light are starting to appear in the capital market, which has been in the grip of winter since the outbreak of the war in Ukraine and the rapid succession of interest rate hikes by central banks.

IPOs are the first sign of a thaw. A growing number of companies want to go public; successful IPOs include the Swiss dermatology specialist Galderm and the German retail company Douglas. Overall, the number of IPOs has fallen sharply since the financial crisis. Within the OECD alone, more than 30,000 companies have disappeared from the stock market since 2005. In the EU, the number of listings fell by 39.7% up to 2020.

The pipeline of IPO candidates looks promising, with the pending IPO of Shein for an estimated EUR 58 billion breaking the ice in the e-commerce segment. Besides IPOs, we are seeing greater M&A activity in general. The level of M&A activity has fallen significantly over the past year, providing new potential for undervalued companies and their investors, particularly in Europe. According to Bain & Company, the volume of M&A transactions was down 15% last year, to USD 3.2 trillion, the lowest it has been in a decade. The stage is thus set for a fresh spate of takeovers from which investors can benefit. The consolidation under way in the capital market is increasingly being driven by private equity. According to McKinsey, record inflows into the private equity funds launched have resulted in a capital stock of USD 3.7 trillion. This capital will be invested in the coming years and will trigger a new wave of takeovers in the stock market. The falling level of financing is already reflecting in the first deals in Europe. Traditional companies such as Novartis are competing for listed companies, as the current takeover of MorphoSys shows.

The signs for a sunny summer are good, but what conditions are needed? The positive economic and business data in Europe (purchasing managers’ indices, employment, logistics issues, etc.) and the onset of normalisation in the US, combined with improved refinancing options and terms, are likely to result in further equity market highs. In addition, not only the men’s European Football Championship but also the ECB’s upcoming change of interest rate policy will lift the mood among market participants.

Inflation is down on both sides of the Atlantic, but pose a dilemma for central banks. If interest rates are cut too soon, there is a risk that inflation will spiral out of control again due to robust economic growth. The result would be a painful correction in capital markets, akin to a severe sunburn. Furthermore, the trade conflict with China, the US presidential election later this year as well as geopolitical conflicts are making it difficult for central banks to maintain foresight.

Investors should not only keep an eye out for rays of sunshine but also seek respite in the shade. On the equity market, Small and mid cap companies are currently leading a shadowy existence. They are trading at an average discount of 30% on their own track record over the past two decades. In Europe, the interest rate policy, weak economic data and the geopolitical uncertainties were the main drivers. Now, at least there are signs of a trend reversal in interest rates and growth. This should give investors the chance to get in on attractive business models at relatively cheap valuations. Even though the current rainfall doesn’t suggest it: the odds are in favour of a glorious summer on the capital market.

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