Populism has become protectionism under the mantra ‘Make America Great Again’. Britain’s exit from the European Union is apparently set to lead the UK to brighter opportunities, but a few details of how to do this are being forgotten for the time being. For instance, there has been a complete disregard for the important, interconnected nature of global supply chains and the relationships between companies and regions in this process.
Contrary to the US and UK, populism will not overthrow Europe’s path of ‘boring but reliable’ economic progress. That may enable investors to look again at out-of-favour European markets and the improving trend in profits. The euro area economy is expected to grow by about 1.5% in 2017, according to European Commission forecasts. An improving economic climate is leading to more relaxed government spending. There is every reason, therefore, to hope that Europe is entering a virtuous, rather than vicious, circle.
To be sure, the political contours seem threatening. The UK is stumbling along an ill-defined path towards Brexit, with the government promising no damage to the economy and full access to European trade, while not paying any bills. A few nervous dissenters, quickly shouted down by a partisan, right-wing press, are quietly asking how this will be possible.
Outside the UK, European politics makes onlookers nervous. In the Netherlands, the populist Freedom party of Geert Wilders, like all current European ‘alt-right’ parties, has accrued significant support on an anti-immigration platform. But Wilders is unlikely to be included in any coalition government. Furthermore, if there is a referendum in the Netherlands on EU membership, the Dutch have made it clear that it would be advisory only.
France faces a presidential election in April and May. Even if Marine Le Pen of the extreme-right National Front party makes it through to the second round of voting, she is unlikely to defeat either the centre-right François Fillon or centrist Emmanuel Macron. The result will probably be a repeat of the 2002 election, when Le Pen’s father lost convincingly to Jacques Chirac. Autumn sees the German elections, where it looks probable that Chancellor Angela Merkel will be re-elected.
Owing to a combination of better growth and emerging inflationary pressures, yields on 10-year bonds have risen to 0.32% in Germany and to 2.51% in the US. This has major implications for banks and recovery stocks. It is clear that, regardless of intense global political uncertainty, the market has chosen to believe in economic recovery.
Companies more sensitive to changes in the economy, such as Atlas Copco in Sweden and Siemens in Germany, are seeing improvements in many areas related to higher investment spending. Banks are seeing a widening net interest margin (the difference between the income generated from loans and the interest paid out to depositors), albeit a gradual one, and increasing demand for loans.
Equity markets have seen a rapid move out of ‘growth’ and into ‘value’. This switch has pushed up the price of value stocks to beyond their 10-year average, while valuations on growth stocks have fallen below theirs. The key to 2017 will be signs that the shift towards value has gone far enough, given the reality that growth in our ‘mature, low growth world’ cannot be conjured into existence. It is too early to make a significant move back into ‘growth’, but that may well be the direction of travel in the next six to nine months.
Tim Stevenson is Director of European Equities at Henderson Global Investors