Emerging market (EM) assets, both equity and fixed income, are now attracting attention, having been out of favour for a while.
We believe that European mid and small cap stocks could make progress in the current environment. The macro recovery in Europe has now continued, after the slowdown seen in early 2016, which was due to global concerns rather than issues within the Eurozone. The recovery there is still being driven by private domestic consumption as reflected in the latest growth (GDP) data. The lower exposure of mid and small cap companies to international sales revenue outside the Eurozone also means that they are less susceptible to the higher volatility in the euro which has been a topic of recent debate.
European equities should benefit from Mr. Draghi’s Easter present. In March, the European Central Bank (ECB) added investment grade euro credit to its ECB’s asset purchasing programme (APP) from June, and expanded monthly purchases to €80 billion from €60 billion. All ECB interest rates were cut too. At the time, because of the pressure of low interest rates on banks’ profitability, Mr. Draghi provided a lower refinancing rate, to directly alleviate banks’ costs, and four new targeted long-term refinancing operations (TLTRO) of four years’ maturity each, starting in June. This cheap loan scheme for European banks should enable them to lend more to companies and – hopefully – should boost the Eurozone economy.
Within European equity market indices, the size of the companies by market capitalisation matters in terms of geographic exposure to revenues. Both the Euro Stoxx Small Cap Index and the MSCI EMU Small Cap Index are made up of companies which generate 69% of their revenues from domestic Europe. This compares with 60% in the Euro Stoxx Mid and 55% for the MSCI EMU Mid Cap.
For investors seeking exposure to another developed market’s fortunes too, the EMU Mid Cap Index has almost 30% of its revenues coming from North America – double the exposure of its smaller cap peer – with the Euro Stoxx Mid Cap Index just a little lower (all data Bloomberg, BlackRock as at 31/03/2016).
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