Analysts Cut Profit 52% as Europe Valuations Hit 2-Year High
Analysts are lowering estimates for European earnings growth by 52 percent, clashing with investors whose confidence in the European Central Bank helped send equity valuations to a 2 1/2-year high.
While the Euro Stoxx 50 Index (SX5E) surged 25 percent over the past four months, matching the three biggest rallies in the past decade, more than 12,000 estimates compiled by Bloomberg show net income will grow 13 percent next year, down from the 27 percent forecast in January. The gauge closed Sept. 28 at 9.5 times projected 2013 profit, near the highest since April 2010.
Bears say declining estimates for companies from Daimler AG (DAI) to UniCredit SpA show analysts doubt Europe’s economy will strengthen and that stocks have risen too far, too fast. Bulls say valuations can climb more as the program of unlimited bond purchases unveiled last month by ECB President Mario Draghi will limit government borrowing costs and give debt-laden nations the chance to fix their economies and preserve the euro.
“My central case would be we are at the top of a range now and now is a time to own less rather than more,” Luke Ellis, chief executive officer of Man Group Plc’s $19.5 billion fund- of-hedge-fund business, said at a presentation in London on Sept. 25. “The chances are we go back down from here.”
Concern the debt crisis, now in its third year, is not yet solved helped send the Euro Stoxx 50 down 4.8 percent last week, paring its 2012 gain to 5.9 percent. The gauge rose 1.8 percent to 2,498.81 today. At the start of this year, analysts projected companies in the index would earn 293 euros a share in 2013, compared with 231 euros in 2011, estimates compiled by Bloomberg show. The forecast growth over the two years had fallen by 52 percent to 261 euros by Sept. 26, the data show.
The decline in equities last week trimmed the Euro Stoxx 50 Index’s price to 9.5 times estimated 2013 earnings, from a 2 1/2-year high of 10 times on Sept. 14. The Standard & Poor’s 500 Index (SPX) is trading at 12.5 times 2013 forecasts, while the MSCI Asia Pacific Index trades at 11.2 times.
“We have seen a pretty good run up but it has been based more on quantitative easing and intervention,” Peter Garnry, an equities strategist at Saxo Bank A/S in Copenhagen, said in a Sept. 25 phone interview. “When you look at the fundamentals, they are not following up. The downside is larger than the upside.”
Euro-area services and manufacturing output as well as German business confidence unexpectedly dropped to the lowest levels in more than 2 1/2 years in September. The median prediction for 2013 gross domestic product growth in the 17- nation euro area has slipped to 0.4 percent from 1.1 percent in January and 2.1 percent in March 2011, according to forecasts from 46 economists compiled by Bloomberg.
While government debt in the region has risen to 88 percent of gross domestic product in the first quarter of this year from 70 percent in 2004, the ECB’s rescue efforts are convincing investors to add to euro-area stocks.
A net 1 percent of money managers had a so-called overweight allocation in European shares last month, according to a Bank of America Corp. survey published Sept. 18. That was the first time participants, who together oversee $524 billion, have owned more of the region’s equities than are represented in global benchmark indexes since April 2011.
Flows into European stocks funds based in the U.S. reached $2.86 billion in the two weeks ended Sept. 19, according to Cambridge, Massachusetts-based EPFR Global, the most since May.
Draghi, who pledged on July 26 to do “whatever it takes” to save the euro, unveiled an unlimited bond-buying program on Sept. 6 to bring down borrowing costs and protect the euro. A week later, the Fed introduced a third round of asset purchases known as quantitative easing. The Euro Stoxx 50 surged to 2,594.56 on Sept. 14 from 2,068.66 on June 1, matching gains over comparable periods in October and June 2009 and June 2003, according to data compiled by Bloomberg.
Equity valuations will probably climb as investors who missed the gains try to catch up, said Graham Bishop, a strategist at Exane BNP Paribas in London.
“Participation so far has been low and additional monetary easing measures seem to be announced on a daily basis,” Bishop wrote in a report dated Sept. 21.
For Tristan Hanson at Ashburton Ltd. in Jersey, the Channel Islands, stocks are cheap compared with other assets. Companies in the Euro Stoxx 50 pay on average 4.81 percent of their share price back to investors in earnings, topping the return on benchmark German government bunds by 3.48 percentage points, according to Bloomberg data. The spread was as high as 5.98 points at the start of June, the data show.
“Equities still look good value relative to other asset classes, which is part of the reason why they managed to grind higher,” said Hanson, who has a neutral allocation in European equities within the $1.6 billion he helps oversee. Still, “the ECB action is conditional on politicians achieving the right outcomes,” he said. “There are a lot of risks.”
French President Francois Hollande announced his first annual budget on Sept. 28, raising taxes on the rich and big companies to reduce a deficit that’s forecast to be 4.5 percent of GDP in 2012. The day before, Spanish Prime Minister Mariano Rajoy’s nine-month-old government detailed its fifth austerity package, including a new duty on lottery winnings and a raid on a pension reserve to finance increased benefits.
As the debt crisis erodes growth, the outlook for company earnings is suffering. Analysts have trimmed Daimler’s profit estimates for 2013 by 5.8 percent in the past four months, while predictions on Milan-based UniCredit (UCG) have dropped 26 percent, Bloomberg data show.
Daimler, based in Stuttgart, Germany, said Sept. 20 that earnings at its car division will drop in 2012 as a European auto-market decline hits profits. UniCredit, Italy’s biggest bank, said Aug. 3 that second-quarter net income sank 67 percent as provisions for bad loans increased and the company earned less from lending and fees.
Heerlen, Netherlands-based Royal DSM NV (DSM), the world’s largest maker of vitamins, said Aug. 7 it will cut jobs as it struggles to meet profit goals. Telefonica SA (TEF), Spain’s largest phone company, trimmed a revenue forecast in July amid a deepening crisis at home. Burberry Group Plc shares fell the most ever on Sept. 11 as the U.K.’s largest luxury-goods maker said full-year profit will disappoint.
Estimates for 2012 earnings at Euro Stoxx 50 companies have fallen to 238 euros a share from 268 euros at the start of the year and 251 euros four months ago, according to Bloomberg data. Forecasts for the S&P 500 in 2013 have fallen 2.2 percent in the past four months to $116 a share. Projections for the MSCI Asia Pacific have slipped 1.4 percent to $11.20 per share, Bloomberg data show.
For James Butterfill, who helps oversee about 40 billion pounds ($65 billion) as a global equity strategist at Coutts & Co. in London, analysts are likely to trim European profit estimates further.
“Do you trust analysts estimates which price in a recovery in earnings?” Butterfill said in a phone interview. “The recent rally was the Draghi effect, it is not built on the back of good fundamentals and good corporate data.”
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