SUMMARY
Europe’s economy faces challenges in 2024, with growth potentially disappointing. Likewise, regional equities could stumble in coming months.
- Economic softening continues, perhaps exerting downward pressure on equities – Hard data is softening while soft data is improving, pointing to better times ahead. Yet, the valuation gap between demand expectations and equities suggests that downward pressures in the latter could build in the short-term in the absence of positive economic surprises.
- Firms have been the most affected economic sector from ECB tightening – A combination of tightening financing conditions, higher level of uncertainty, labour hoarding and faster growth in wages are beginning to exert downward pressure on margins.
- Households could contribute significantly to the rebound in 2024/25 GDP – Savings rate remains well above its historical average and much higher interest rates will be adding to household incomes, creating the conditions for a significant rebound in spending from 2H-24.
- Risks remain skewed to the downside for 2024, but energy concerns are fading – On balance, there are more risks of a GDP growth disappointment in coming quarters even if demand should recover, while governments have managed the energy crisis well.
- Inflation and central banks – Inflation normalization is underway in Europe and the UK, meaning that central bank policy rates have probably peaked. Interest rates could stay high until the late spring or early summer of 2024, but the direction of travel is likely to be down from here.
- UK gilt strategy – We believe that the UK short- and medium-term gilt yield market has potentially peaked. We continue to believe current gilts yields are still very attractive over the next 12-18 months, offering a great opportunity for both local and European investors, in terms of income generation and total returns.
- European Real Estate strategy – Given the cheap valuations, strong dividend income, a positive earnings story for 2024 and the likelihood of peak ECB policy rates, we believe that our underweight position in European RE is becoming less justified and look to increase it to a neutral position over the medium-term (12-18 months). However, we do acknowledge the risks stemming from structural changes occurring in the sub-sectors which could create a slight downside risk to the sector.
