Europe’s most indebted nations are this year’s biggest stock market winners, a signal that investors are convinced by assurances from the region’s leaders that the single currency will survive.
Stocks in Greece, Spain and Italy, the worst performing developed markets in 2010, have gained 12 percent on average this year. Spain’s IBEX 35 and Italy’s FTSE MIB are having the best start since 1998 while Greece’s ASE Index is surging the most since 1999, according to data compiled by Bloomberg.
While last month 59 percent of respondents in a Bloomberg survey said at least one nation will leave the euro within five years, stocks suggest investors are becoming less concerned about the sovereign debt crisis. The rally is being fueled by demand for the cheapest stocks and support for the single currency from German Chancellor Angela Merkel and French President Nicolas Sarkozy, according to JPMorgan Chase & Co. and SVG Investment Managers.
“The politicians are pulling together for the survival of the euro,” said Michael Barakos in London, whose JPMorgan Europe Strategic Value fund’s gains have already exceeded all of 2010 thanks to holdings including Spain’s Banco Bilbao Vizcaya Argentaria SA. “A lot of people had thrown in the towel on Europe. No matter what valuation, they did not want to take any risk here. People forget the market is not just economic, it is political.”
Since peaking in 2007, shares in Greece, Spain and Italy remain some of the world’s worst-returning stocks. Benchmark indexes in the countries are down an average of 50 percent, compared with a 20 percent drop for the MSCI World Index. The ASE climbed 1.3 percent to 1,642.7 at the 5:20 p.m. close of Athens trading today. Spain’s IBEX 35 lost 0.3 percent to 10,774.7 and Italy’s FTSE MIB slipped 0.3 percent to 22,637.29.
They fell an average of 22 percent in 2010 as investors fled Europe’s periphery amid concern one or more nations may restructure debt. The majority of respondents to a Bloomberg Global Poll released on Jan. 26 said that Greece and Ireland will default, while 59 percent predicted at least one of the 17 euro nations will leave the currency union by 2016.
The euro had its biggest decline against the dollar since 2005 last year, weakening 6.5 percent. The Euro Stoxx 50 Index of the largest companies in the single currency area dropped 5.8 percent while the broader Stoxx Europe 600 Index, which includes countries outside the region such as the U.K. and Sweden, gained 8.6 percent.
The trend has reversed this year as the economy improves and European governments augment the measures they designed when rescuing Greece and Ireland in 2010. European Union leaders will meet on March 11 to discuss actions that may include lowering interest rates on bailout loans and allowing the 440 billion-euro ($600 billion) European Financial Stability Facility to buy debt directly from member states.
Greece’s ASE has surged 15 percent in 2011 and Italy’s FTSE MIB has rallied 13 percent, making them the best performing indexes among 24 developed markets tracked by Bloomberg.
“The euro project is something far bigger than lots of people in the market were thinking,” said Andrew Goodwin, manager of the SVG European Focus Fund, which has beaten 99 percent of peers in 2011 with a 13 percent return. “Germany and France would do everything in their power to make the euro work.”
In a New Year’s speech on Dec. 31, Merkel vowed to bolster the euro, which she called “far more than a currency” and “the foundation of our wealth.” The same day, Sarkozy said that an end of the euro would signal the end of Europe, and that he will “oppose this backlash with all my strength.” The European common currency has gained 5 percent against the dollar since reaching a four-month low on Jan. 7.
The return of confidence has coincided with better-than-forecast economic data from the region’s largest economies. The Munich-based Ifo institute’s index of German business confidence increased in January to the highest since records for a reunified Germany began in 1991. A measure of French business sentiment also climbed.
Italy and Portugal returned to growth in 2010 and Spain will expand in 2011, according to forecasts compiled by Bloomberg. The Greek economy, which went into a recession in the fourth quarter of 2008, is forecast to contract by 2.7 percent this year, after shrinking an estimated 4 percent in 2010.
Europe’s debt crisis may still halt the rebound. Non-performing loans at Italian lenders in December rose 32 percent to 77.8 billion euros from a year earlier, the Bank of Italy said last week. Spain’s jobless rate increased to 20.3 percent in the fourth quarter, the most in 13 years, as the deepest cost-cutting measures in three decades delayed the recovery. Yields on Portuguese 10-year bonds climbed to the highest level since 1999 last week.
“Banks are still heavily reliant on European funding,” said Adrian Bignell, manager of the $37 million Invesco Perpetual European Opportunities Fund. “We think that a lot the impairments are still to be recognized. The outlook for growth is weak.”
The gains in Greek and Italian stocks are also part of a larger shift as fund managers worldwide seek undervalued assets amid increasing confidence that growth in the U.S. and Europe will underpin economic expansion, according to James Barber at Russell Investment Group in London. At the start of February, the 100 stocks with the biggest gains in 2011 traded at 2 times book value, or assets minus liabilities, compared with 5.6 times for those whose shares have done worst, according to data compiled by Bloomberg.
“What you saw is a massive rotation into value,” said Barber, whose Continental European Equity Fund has “underweight” allocations in Spain, Italy and Greece. “It’s a natural part of the maturing of the recovery trade and the cycle.” Russell oversees $155 billion worldwide.
SVG’s Goodwin is snapping up the cheapest shares. He began purchasing Hellenic Telecommunications Organization SA, Greece’s biggest phone company, in June when the shares traded for as little as 1.9 times cash flow, compared with the Stoxx 600’s multiple of 7.
The Stoxx 600 trades at 1.7 times its net assets, or book value, compared with an average multiple of 2 since 2000. Greek shares are priced at 0.8 times book value on average, while Portuguese equities trade at 1.3 times book, Italy 0.9 and Spain 1.5 times.
The countries won’t stay that cheap as European leaders coordinate support for the region’s weakest economies, according to Mike Lenhoff, London-based chief strategist at Brewin Dolphin Securities Ltd., whose parent company oversees $33 billion.
“Politicians are taking a far more determined approach,” said Lenhoff, who removed his underweight position on European stocks this month. “They are talking about things the market wants to see. Concern about peripheral Europe is not a game stopper like it might have been a year ago.”