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Europe’s comeback

by Olgerd Eichler

During the last decade, the United States experienced its longest period of good economic growth. The US economy boomed. Investments, consumer spending and profits - many things skyrocketed. This was also reflected in the price levels of the US stock markets. Now the tide may be turning and the outperformance of US stocks may be coming to an end. European stocks in particular, are on the verge of catching up. Europe’s swansong was premature.

The 2008/09 economic and financial crisis was a watershed. For the US too. The US administration supported the economy with extensive aid packages and stimulus measures. In addition, extensive regulations were enacted for the financial sector. What began in 2010, and continues to be the case today, was an unprecedented rise of the US economy. But it sometimes came at a high price, as in the years that followed, the national debt increased almost immeasurably. This was made possible by low key interest rates; the timing was favourable, as it were. At the end of 2016, the national debt totalled almost USD 20 trillion. Even under the Trump administration, there has been no end to the accumulation of debt. The current president has even gone one better. At the end of 2017, a mammoth tax-reduction package was approved; the corporate tax rate was cut to 21%. A further stimulus. The tax reform that was implemented further boosted the economy; GDP climbed to a new high. America first. And Europe?

In Europe, the last ten years have been quite turbulent. The constant concern and discussions about our single currency and the possible break-up of the monetary union have been dominant themes. The Brexit vote and the way it was handled also clearly showed in what state Europe finds itself. The continent seemed to remain in the shadows, while the US continued to shine comparatively brightly. And although the ECB also lowered its key interest rate to 0% in spring of 2016, the austerity principle continued to apply in the EU. New borrowing fell, while it rose for its overseas partner.

Nowadays, we Europeans are very much in favour of this prudence. For despite all the prophecies of doom, Europe is very much alive. 2020 marks the 70th anniversary of European unification and we are increasingly seeing signs of life. Signs of strength, of unity in diversity. The starting point for this is once again a watershed moment: the coronavirus crisis is contributing to a change in the signs. Now we can and must draw on all our resources to get the economy back on track. One might say that money no longer plays a role. And thanks to the robust past budgets, this is easier to achieve.

Although Europe is still strongly affected by the Covid-19 pandemic, the situation varies from region to region. Economies like Germany's are on the road to economic recovery. The ifo index, for example, has recently risen once more. Trade is doing comparatively well. Thanks to labour market policy instruments such as reduced working hours, the employment situation is not drastic and the decrease in VAT is providing additional stimulus. The banking system is also much more stable today than it was during the previous crisis. Overall, the European Union is standing firmly together during the coronavirus pandemic and is investing jointly in the future. This means that, among the major economic areas, Europe could emerge from the crisis the fastest and the European recovery plan should give an additional boost to European equities. In addition, crises often act as a catalyst for structural change and can increase investment in long-term trends such as digitalisation. This in turn could accelerate Europe's catch-up process and narrow the gap with the US. Provided Europe does not weaken its own position. And the United States? Is the country faltering?

It is clear that the societal rifts and divisions, particularly in the current critical phase of the presidential election campaign, are very evident and worrying. The societal glue is missing and the US society is in danger of falling apart. President Trump has certainly reinforced this trend during his term in office.

A review of index performance shows how significant the catch-up effect in Europe could be. Since March 2009, the S&P 500 has risen almost fivefold, while its European counterpart, the Stoxx 600, has only doubled during the same period. A look at the valuations tells a similar story.

The signs are therefore good for Europe’s comeback. Investors should rethink their positioning and consider the continent's upside potential.

Author: Olgerd Eichler, Portfolio Manager of MainFirst Top European Ideas Fund & MainFirst Germany Fund

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