Fund managers grow more gloomy over outlook for European stocks

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Large institutional investors are growing increasingly worried about the outlook for European stock markets, following a disappointing round of second-quarter results.

Bank of America’s monthly survey showed that a net 71 per cent of global fund managers expect stock markets in Europe to weaken in the coming months, up from 66 per cent in July.

Meanwhile, concerns about equity valuations have risen to their highest level for three years, with a net 29 per cent of fund managers describing stocks in the region as overvalued.

The region-wide Stoxx 600 index has risen about 7 per cent so far this year, although it hit a five-week low on Tuesday amid a global sell-off in stocks as investors fret over the health of the Chinese economy and concerns that US interest rates may stay higher for longer to curb inflation.

European equities are trading on a 12-month forward price-to-earnings ratio multiple of about 12.6 times, just below the long-term average.

Underwhelming earnings reports for the second quarter by European companies have contributed to the downbeat mood among fund managers. While 44 per cent of European companies exceeded analysts’ earnings forecasts for the second quarter, misses were reported by 30 per cent of companies, according Morgan Stanley.

Giorgio Magagnotti, an equity strategist at Morgan Stanley, noted that the average one-day share price reaction to a company beating earnings per share forecasts in the second quarter was a rise of 0.81 percentage points, compared to a decline of 1.65 percentage points for missing forecasts.

“Share prices continue to underperform more when a company misses expectations than outperform when it beats [analysts’ forecasts],” he noted.

Earnings per share for listed European companies in aggregate are expected to decline 1.8 per cent this year, according to the consensus forecast among financial analysts. Earnings for the energy and material sectors are predicted to drop by 29.7 per cent and 33.2 per cent, respectively, in 2023, offsetting an increase of 13.8 per cent for tech companies.

However, the survey also showed a net 31 per cent of global fund managers do not expect the global economy to shrink into recession over the next 18 months. That is more than double the 14 per cent that held that view as recently as June, but it still leaves a majority — a net 60 per cent — of fund managers expecting a global recession before the end of next year.

Meanwhile, the UK stock market has started to attract more attention from fund managers as confidence in the outlook for continental equities has weakened.

Sentiment towards the UK improved markedly in August with a net 24 per cent of managers running with an overweight position early this month, a sharp reversal from July when the net underweight stood at minus 8 per cent. The FTSE 100 has underperformed continental peers this year, down 0.9 per cent.

“Investors have become more positive about the outlook for energy stocks, a key sector for the UK equity market, on the back of rising oil prices and renewed weakness for sterling which provides a boost for UK-listed oil majors,” said Andreas Bruckner, a BofA investment strategist in London.

The bank is forecasting that the price of Brent crude will average $90 a barrel in 2014, up from $80 this year.