Investment strategy
July 24, 2022
2 mins

Europe in the eye of the storm

July 24, 2022
2 mins
David Bailin
Chief Investment Officer and Head of Citi Global Wealth Investments
Steven Wieting
Chief Investment Strategist and Chief Economist
SUMMARY

For the moment, Europe is not in recession. However, we expect present conditions to come under significant pressure as we enter the fall and winter. Despite an economic slowdown, we believe the ECB will likely deliver a total of 150bps in rate hikes to fight rising inflation.


  • Inflation is unlikely to peak before autumn. The latest June reading showed an 8.8% year/year rise across the continent, overshooting consensus expectations and showing no signs of near-term moderation. Our 18-month outlook for inflation is more constructive. We believe that the rate of HICP inflation is more likely to be 4% or less by the end of 2023.
  • Europe’s dependence on Russian energy remains significant and is a major economic vulnerability. Europe’s strategy of rationing energy supplies creates some clear and present risks to Europe’s business cycle, while the persistence of high fossil fuel prices will keep headline inflation elevated. There are no immediate solutions to this crisis.
  • Political uncertainty is building across Europe. France’s Emmanuel Macron was re-elected for a final 5-year term but lost his absolute majority in the lower house of parliament, making governance more difficult. German Chancellor Olaf Scholz continues to lose critical local elections. The UK Conservative Party will now spend the summer choosing its next PM. And the Italian government is in disarray, with the possibility of snap elections in September or October.
  • As long as Europe’s economic stresses remain regional and financial shocks are not transmitted elsewhere, a 2022 second half contraction in real GDP fits our base-case RESILIENT scenario for the world economy. Our views are below Street consensus, with global GDP growth estimated at just 2.6% this year. Our forecasts for 2023 are likely to be under downward pressure.
  • We believe European markets have priced in an economic slowdown, but not a recession. If there was a further significant reduction to gas flow to Europe, we could expect another 10% contraction in European EPS over the next 12 months and further downside to European markets.
  • For long-term investors regional pharmaceuticals, food, and even world-leading luxury brands deserve to remain in portfolios. Unfortunately, for overall stock and bond allocations, we do not believe investors are presently being adequately compensated for the Euro region’s risks.

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