Global Vantage Report
Euro zone economic update
Economic data out of Europe has been nothing short of weak with Germany, the leading economy, now facing economic contraction as a result of the slowing recovery. While European services PMI data continues to hold up, manufacturing PMI is moving closer to the contraction level of 50.0, providing a bleak overall outlook for Europe. With the recovery now in reverse gear, the pressure is well and truly on the ECB to take further action in September.
Most commentators insist that the ECB prefers to remain on hold since previous policy measures will only be enacted in September, but several developments have occurred that potentially negates this. Firstly, Draghi’s preferred gauge on inflation expectations, the 5yr-5yr swap rate, has crossed the 2% Rubicon indicating a decline in medium term inflation outlook. Secondly, Draghi’s speech at Jackson Hole included a statement that was delivered off the cuff, excluded from the prepared text, which he said “The Governing Council will acknowledge these developments and within its mandate will use all available instruments needed to ensure price stability over the medium term.” In other words, ABS purchases or QE is a done deal, to be delivered over the following months.
A curious development we have observed in financial markets is such that the European sovereign bond markets, both core and periphery, seem to have been expecting these events all along, over the past few months. Yields have remained low, despite the equity market correction in July, and have now plumbed new all time lows. Clearly, the sovereign bond market has clearly always been expecting ECB QE, from here the equity markets should be next in its adjustment.
EU equities
As mentioned above, with ECB QE is more or less signed, sealed and soon to be delivered, European equities should regain their footing soon and perform strongly over the coming months.
Our focus currently remains on the banking sector due to the impending AQR stress tests and TLTRO take-up that will alleviate balance sheet concerns about European banks and promote capital investment in them. Some specific names we are looking at include Santander, ING Group, and Bank of Ireland, that currently have the best performance metrics. Overall, the entire banking sector should see a sustained lift over the coming months.
Hans Ong
Analyst,
Portfolioascent.com
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