Global equities: The hidden opportunity in Europe’s changing market

Investors often overlook European markets due to outdated assumptions. But the new Europe is a fast-growing, cheap play on global themes, argues PAUL WILD

• New Europe less cyclical, higher growth
• Sector composition change
• Global mega-trend alignment

A DECADE of change in Europe has resulted in a faster-growing, higher-quality and less cyclical market that is becoming more international and aligned with global themes like decarbonisation and digitalisation, says Pendal’s Paul Wild.

“There’s a lot of pre-conceived ideas around Europe,” says Wild, a senior fund manager with Pendal’s London-based affiliate J O Hambro.

“Cyclicality, low growth, dirty industrials — generally just not that attractive.

“But what people are missing is a huge amount of sector change over the last 10 or 15 years. The European market is now higher return, higher growth and less cyclical.”

Investors in European stocks have endured a very poor decade of performance, compounded by the post-GFC re-regulation of the banking system which crimped credit growth and ultimately triggered a double dip recession.

But the poor performance has hidden sweeping changes in European markets, which today are vastly different from a decade ago, says Wild.

Since the GFC:

• Healthcare sector has grown 7 percentage points to be 16 per cent of the MSCI Europe ex UK index
• Technology has lifted 5 percentage points to 9 per cent
• The consumer sector is up 4 percentage points to 24 per cent
• Industrials are up 4 percentage points to 16 per cent.

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“What’s gone down is financials, which have fallen by 7 points to 16 per cent — and only 11 per cent of that is banks — and the triumvirate of oil, utilities and telecoms have all pretty much halved in their sector weighting and are now just 3 or 4 per cent of the index each,” says Wild.

The changing face of Europe is even more pronounced at the top end of the market – the top 10 companies account for about 26 per cent of the index and are stocks with genuine global leadership.

Luxury goods behemoth LVMH, semi-conductor leader ASML, diabetes and obesity drug maker Novo Nordisk and business software group SAP are each among the 10 largest European companies.

“Since the GFC, the only two stocks which have stayed in the top 10 have been Nestle and Novartis,” says Wild.

“As a result, the top 10’s average weighted return on equity is now nearly 40 per cent, which compares to about 13 per cent to the index as a whole.

“So, the strong are getting stronger and the biggest stocks of Europe have got very strong structural growth. That will drag the index as a whole into a higher average return on equity.”

Despite this improvement, European shares are still trading on about 13 times forward earnings, in line with the average multiple of the past 20 years.

European markets becoming more international

Wild says another factor many investors miss is that the European companies increasingly draw their revenues from outside Europe.

“As a function of this, the European markets are becoming much more international. The MSCI Europe ex UK index currently gets about 55 per cent of its revenue from outside of Europe – versus about 45 per cent 15 years ago.

“The top 10 stocks get about 75 per cent of their revenue from outside of Europe.

“This means Europe is becoming much more of a play on the rest of the world, because the more domestic sectors like banks, telecoms and utilities are becoming a lesser part of the index.”

One main driver of this change is that Europe is highly aligned with global megatrends like decarbonisation and digitalisation, each of which has been the focus of recent stimulus measures.

Wild says that there has not been enough investor attention on decarbonisation and the path to net zero.

“There is a plethora of European companies brilliantly positioned to benefit from that — from the wind turbine companies to the renewable generators, the industrials focusing on building efficiency, the car companies which are pioneering electric vehicles.

“We think a multiyear period of re-rating lies ahead of us.”

About Paul Wild and Pendal global equities strategies

Paul Wild is senior fund manager with J O Hambro Capital Management, a London-based active investment manager which is part of Pendal Group.

Paul manages J O Hambro’s Continental European fund.

Pendal offers a range of global equities strategies to Australian investors including:

• Pendal Global Select Fund
• Pendal Concentrated Global Share Fund
• Regnan Global Equity Impact Solutions Fund
• Pendal Global Emerging Markets Opportunities Fund

Pendal is a global investment management business focused on delivering superior investment returns for our clients through active management.

In 2023, Pendal became part of Perpetual Limited (ASX:PPT), bringing together two of Australia’s most respected active asset management brands to create a global leader in multi-boutique asset management with autonomous, world-class investment capabilities and a growing leadership position in ESG.

Contact a Pendal account manager here