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European Stocks to Rally 25% by End of 2012 on Economy, RBS Says

European stocks will rise as much as 25 percent by the end of 2012 as the world economy “shrugs off” the region’s debt crisis and falling costs boost profit margins of companies, Royal Bank of Scotland Group Plc said.

Equity gains will be driven by a double-digit increase in earnings, and investors should buy shares sensitive to economic growth, RBS strategists Ian Richards, Graham Bishop and Robert Griffiths wrote in a note story.

“Twenty five percent upside may sound aggressive,” they wrote. “It’s not, at least in terms of the valuation normalization it implies. Despite the drag of Europe, we expect the global economy to be strong enough to support the growth in corporate earnings through 2012.”

The benchmark Stoxx Europe 600 Index has slumped 14 percent this year as the debt crisis that first engulfed Greece and Ireland threatened to spread to the larger economies in southern Europe. The measure is trading at 10.3 times estimated earnings, below its five-year average of 12, according to Bloomberg data.

The analysts expect the gauge to increase to the level of 300 by the end of 2012, about a 25 percent gain from its current level.

A more muted prediction for the European markets came from UBS AG strategists including Jeffrey Palma who forecast “mid-single digit” earnings growth next year and advised defensive positioning in stocks.

Threat to Stability

“The sovereign debt crisis in Europe poses an ongoing threat to market stability,” Palma wrote in a note today. “Until a path to resolution in Europe as well as towards faster and more sustainable growth is clear, uncertainty and risk premiums will remain high.”

UBS retained its “underweight” position on European stocks, downgraded Japan shares to “underweight” and raised its position on U.S. stocks to “overweight.” UBS also has an “overweight” rating on emerging market shares.

European stocks will rally 17 percent through the end of next year as earnings growth supports valuations and “extreme pessimism” abates, Edmund Shing, the London-based head of European equity strategy at Barclays Plc, wrote in a report on Nov. 11.

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