Fund Managers Join Party That's Warming to European Stocks

European stocks are back in vogue.

That’s the chorus investors have been hearing since the start of the year from strategists at banks including JPMorgan Chase & Co. and BNP Paribas SA. Now money managers are starting to sing along.

After avoiding the region’s equities for most of 2016, investors are cautiously adding to European funds again. Inflows were notched in six of the last seven weeks, according to Bank of America Merrill Lynch notes citing EPFR Global data. Meanwhile, the Stoxx Europe 600 Index is up 1.1 percent in March, headed for a second straight monthly gain.

The reversal is small -- a $1.3 billion net inflow in 2017, compared with net redemptions of $113 billion in 2016. Even so, the trend coincides with sell-side research on the region’s shares becoming increasingly positive, even as the Stoxx 600’s price-to-earnings ratio is closing some of its discount to its U.S. counterpart.

The macroeconomic fundamentals underpinning Europe’s equity market are improving: Profit growth at European companies in the fourth quarter outpaced the U.S. for the first time in a year and a half, and the euro weakening more than 5 percent against the dollar in the past six months is poised to benefit exporters.

One element, however, is capping the enthusiasm on both sides -- the coming French presidential election, in which a surprise win for populist, euro-sceptic candidate Marine Le Pen could impede stocks’ advance, according to analysts.

“Improving profits, solid macroeconomic data and the fact that equities are expected to provide more safety to investors than bonds amid political events are some of the reasons for the inflows,” said Guillermo Hernandez Sampere, head of trading at MPPM EK in Eppstein, Germany, where he helps oversee $260 million. “Markets have also accepted higher price-to-earnings ratios, which is a sign for an optimistic outlook.”

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Equity strategists’ year-end forecast for the Stoxx 600 inched higher in March to 378, implying a 1 percent gain left in 2017, according to the average of eight bank estimates compiled by Bloomberg. Some of the enthusiasm is relative. Goldman Sachs Group Inc. and JPMorgan Asset Management have both said European stock returns may exceed those of U.S. peers in 2017.

Even as their valuation gap to U.S. peers has started to narrow, European shares are still cheaper, based on profit multiples. The Stoxx 600 trades at about 15 times forward earnings, versus an S&P 500 Index multiple of almost 18.

Among the more bullish forecasters is Barclays Plc’s Dennis Jose, who predicts a 7.1 percent gain for the Stoxx 600 from Tuesday’s close and says the gauge is poised to rise if the French election ends in a “non-EU threatening outcome.” While polls show Le Pen winning the first round in April, they predict she will lose the May runoff vote.

“We could see a relief rally once the French election is over,” said Pascale Auclair, managing director and head of investments at La Francaise, which oversees 60 billion euros ($64 billion). “European equities’ risk premium will fall and we could see an outperformance of European stocks versus U.S. stocks.”

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