PMC Weekly Review - May 12, 2017

A Macro View: En Marche Europe!

In the run-up to the Brexit vote in June 2016, few pundits and experts anticipated its outcome. The markets seemed to be complacent, as few investors were positioned for the result. To nearly everyone’s shock, the United Kingdom voted to exit the European Union (EU). Generally speaking, an economic and cultural anxiety influenced Brexit voters who were uncomfortable with the EU principal of free movement of goods and people. A few months later, Donald Trump won the US presidency on an antiglobalism, populist platform. With a litany of continental European elections coming in 2017, threatening to upend the very existence of the EU, how likely is the continued march of anti-EU populism? The logical follow up to the previous question is, what are the implications for the EU’s economic recovery, and what is the investment opportunity set?

France and the Netherlands each had elections scheduled to determine control of their respective governments, in which populist, anti-EU candidates or parties garnered significant traction in polls. The Netherlands’ Geert Wilders and his anti-Islam and anti-EU Party for Freedom was rebuffed at the polls in March by the establishment center-right party. In France, Marine Le Pen heads the far-right National Front on a platform of removing France from the EU and limiting immigration. In the runoff of the French presidential election on Sunday, centrist Emmanuel Macron resoundingly defeated Ms. Le Pen by over 30%. Mr. Macron’s political rise, in and of itself, is highly unusual, as the party he heads, “En Marche!” or “Onward!,” was only created roughly a year ago. Mr. Macron ran on a platform of reforming France’s economy to make it more competitive internationally while maintaining strong EU ties. In a rebuke to the National Front and Ms. Le Pen, Mr. Macron came out to address his supporters after his victory accompanied by Beethoven’s “Ode to Joy,” the European anthem. Given the electoral results across Europe, can we conclude the anti-EU populist movement is at an end?

Looking forward, Germany has upcoming parliamentary elections in the fall, but its populist, far-right party, Alternative for Germany, is trailing badly in the polls. It appears as though Europe is turning the corner in terms of near-term political threats to the EU’s existence. However, it is important to note that the economic and cultural anxiety that caused these parties to gain ground in parliaments across Europe are still in place. So, even though many of the populist parties, such as the National Front in France and Party for Freedom in the Netherlands, failed to win control of their respective governments, they still will wield power in parliament. In fact, for Mr. Macron to enact the aggressive reform agenda on which he ran, En March! must build out a broader party and find candidates to run for parliamentary seats in an election that will occur in less than a month. This will be a Herculean task, no doubt, especially given the fact that many in France voted against Le Pen, rather than for Macron and his aggressive reform agenda. We can conclude that it appears as though the anti-EU movement is waning and the immediate threat to the EU’s existence is removed.

At the same time that the political risk revolving around the continued existence of the EU is no longer an immediate concern, Europe’s economic environment appears to be strengthening. The Eurozone economy grew by an annualized 1.8% during the first quarter, easily outpacing the US’s anemic 0.7% growth rate. In addition, the composite Purchasing Manager’s Index (PMI) for the Eurozone rose to 56.8 in April—a six-year high. The European Central Bank is also set to keep monetary policy extremely loose for the foreseeable future. Although unemployment remains relatively high—9.5% in the EU as of March—retail sales rose each month during the first quarter. Earnings for the Stoxx Europe 600 Index are expected to increase 5.5% over the first quarter from a year earlier, adding yet another positive indicator to the ledger. Not only is the economic backdrop in Europe appealing, but stocks are cheap relative to their US peers. The Stoxx Europe 600 Index is trading at 15.3 times the projected next twelve months’ earnings, while stocks in the S&P 500 Index are trading at 18.3 times next twelve month’s (NTM) earnings. With the immediate threat to the EU dissipating and the economic picture brightening, perhaps it’s time to begin looking to Europe for equity investing opportunities.

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