HSBC warns investors to avoid European stocks in search of value

Fog blankets the Canary Wharf business district including global financial institutions Citigroup Inc., State Street Corp., Barclays Plc, HSBC Holdings Plc and the No. 1 commercial office block Canada Square, on Dog Island on the day. November 5, 2020 in London, England.

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According to Willem Sels, global managing director for Europe, investors should avoid allocating to Europe to hunt for valuable stocks, as the continent’s energy crisis means rewards. The risk is not there yet. HSBC Bank Private Banking and Wealth Management.

The macroeconomic outlook in Europe is bleak as supply disruptions and the impact of Russia’s war in Ukraine on energy and food prices continue to constrain growth and force central banks to tighten their belts. tight monetary policy to control inflation.

Often, investors have turned to the European market in search of value stocks – companies that trade at prices below their financial fundamentals – when trying to outperform. through volatility by investing in stocks that provide stable income over the long term.

In contrast, the US offers plenty of big-name growth stocks – companies that are expected to grow earnings at a faster rate than the industry average.

Although Europe is a cheaper market than the US, Sels argues that the difference between the two markets in price-to-earnings ratios – valuations of companies are based on current share prices versus earnings per share. their bond – doesn’t “compensate for the additional risk you’re taking.”

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“We think the focus should be on quality. If you’re looking for style trends and are going to make a decision based on style, I think you should consider the difference in quality between Europe and America, rather Sels told CNBC last week.

“I really don’t think clients and investors should look at geo-allocations on the basis of style – I think they should on the basis of your economy and your earnings prospects, because So I would be cautious against buying Europe because of cheaper valuations and volatility in interest rates.”

With earnings season set to kick off next month, analysts widely expect the earnings downgrade to dominate worldwide in the short term. Central banks remain committed to raising interest rates to tackle inflation while acknowledging that this could cause economic conflict and possibly a recession.

Nigel Bolton, Managing Director at Black stones Basic shares.

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However, in his fourth-quarter outlook released Wednesday, Bolton hinted that stock pickers could look to capitalize on valuation differences between companies and regions, but would have to identify Identify businesses that will help come up with solutions to price and exchange rate increases.

For example, the case for buying bank stocks picked up, he argued, as hotter-than-expected inflation reports added pressure on central banks to keep raising interest rates, he argued. strong.

Beware of ‘sniffs’

Europe is racing to diversify its energy supply, relying on Russian imports for 40% of its natural gas before its invasion of Ukraine and subsequent sanctions. This need was exacerbated earlier this month when Russia’s state gas corporation Gazprom cut off gas flows to Europe through the Nord Stream 1 pipeline.

“The simplest way to mitigate the potential impact of gas shortages on investment portfolios is to be aware of companies with high energy bills as a percentage of earnings –” says Bolton. especially where energy is not provided by renewable sources.

“The energy demand of the European chemical industry is equivalent to 51 million tonnes of oil in 2019. More than a third of this electricity is supplied by gas, while less than 1% comes from renewables. .”

Some of the larger companies were able to weather the gas shortage by hedging energy costs, meaning they pay below the daily “spot” price, Bolton noted. What is also needed is the ability to pass on increased costs to consumers.

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However, smaller firms without complex hedging techniques or pricing power could struggle, he suggests.

“We have to be especially careful when companies that appear attractive because they’re ‘defensive’ – they’ve historically generated cash despite slowing economic growth – have an impact,” Bolton said. significantly, unaffected by gas prices”.

“A mid-sized brewer can expect alcohol sales to increase during an economic downturn, but if energy costs don’t fall it’s difficult for investors to be confident in earnings.” in short term.”

BlackRock is focusing on companies in Europe with diversified operations globally to insulate them from the impact of the black continent’s gas crisis, while Bolton suggests that among those focused In the continent, companies with greater access to Nordic energy supplies will have better prices.

If price increases fail to curb gas demand and rationing becomes necessary by 2023, Bolton suggested that companies in “strategically important industries” – renewable energy producers Creation, military contractors, healthcare and airline companies – will be allowed to operate at full capacity.

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“In our view, supply-side reform is needed to tackle inflation. This means spending on renewable energy projects to address high energy costs,” Bolton said.

“It also means that companies may have to spend to strengthen their supply chains and address rising labor costs. Companies that help other companies reduce costs will benefit if inflation rises. continue to be higher in the long run.”

BlackRock sees opportunities here in automation that reduces labor costs, along with those related to electrification and renewable energy transitions. In particular, Bolton predicts demand for semiconductors and raw materials like copper will skyrocket to keep up with the electric vehicle boom.

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