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Europe gets the jitters

The sovereign debt crisis crippling Europe has led fund managers to take defensive positions in European stocks.

Last week, the European Central Bank held its main interest rate at 1.5 per cent in light of the escalating eurozone debt crisis, which has caused markets to fall and created a volatile environment for investors.

Marcus Brookes, Cazenove’s head of multi-manager funds, is main-taining a significant underweight position in European equities. In the £194.5m global ex UK fund, he is half-weighted in Europe relative to the benchmark, with an 11.5 per cent weighting.

It is not just Europe’s sovereign debt crisis that makes Brookes wary of the region. He says: “Europe has been a major beneficiary of growth in China. German industrials, in particular, are making record profit margins by selling complex engineering products to China. If we see a global slowdown, Europe would be the worst place to invest.”

Brookes is surprised the euro has not weakened as a result of the crisis. He says: “We have 1.5 per cent in an ETF that hedges out euro exposure in the multi-manager diversity fund. It is the one area that looks big and ugly and needs more help from authorities to sort it out.”
Brookes says he is not likely to sell off European exposure as opportunities remain in the market.

He says: “We have started seeing investors switching out of the winners of the last three years, such as cyclical stocks, into the losers, such as defensive stocks. That may cause an increase in the value of the shares of those defensive companies, even as the stockmarket declines.”

Jacob de Tusch-Lec, manager of the £42.4m Artemis global income fund, says Europe has actually performed quite well but it is still viewed as contrarian to be there.

Investors are switching out of the winners, such as cyclical stocks, into the loswers, such as defensive stocks

He is avoiding peripheral countries, such as Italy and Spain, which will “muddle through” in terms of growth.

Tusch-Lec held 5 per cent European industrials last year but has no exposure now because of the global economic slowdown. Instead, he has invested in French pharmaceutical Sanofi, Swiss pharma Roche and Denmark telecommunications company TDC.

The fund’s chemicals, oil and gas and industrials exposure was 25 per cent at the end of last year but is now 14 per cent. Healthcare has doubled from 5 to 10 per cent.

Tusch-Lec says: “The ECB has set an interest rate that is somewhere in the middle for the countries in the eurozone, which is too high for Spain and too low for Germany. German companies will benefit because interest rates are relatively low.”

The fund has exposure to banks in Singapore, Norway, Sweden, Poland and Germany. Tusch-Lec says the European banking sector is cheap with good valuations but he is not tempted to buy Spanish or Portuguese banks, favour-ing banks in regions where the economy is thriving.

Germany’s Commerz-bank is trading at halfprice to book value. He says: “It is less than one-tenth of my exposure to banks and makes sure I will have something in there if banks rally. I am under-weight eurozone banks because if the sovereign debt crisis worsens, their value could fall rapidly.”

Liontrust European fund manager James Inglis-Jones, who runs the £57.2m European growth and £26.9m European absolute return funds, says this year he has been buying high-quality growth stocks that can perform over the economic cycle, rather than the cyclical stocks he focused on last year.

In May, Inglis-Jones added a 4 per cent weighting in Portuguese food distributor and manufacturer Jeronimo Martins, betting company Paddy Power and Spanish electricity supplier Red Electra in both funds.

He moved the funds out out of Belgium chemicals firm Tessenderlo, plant and machinery provider Metzo Machinery and steel tube manufacturer Vallourec.

Inglis-Jones has also introduced European stocks to the Liontrust £324.2m income fund he manages with Gary West.

He says: “The continental European stocks we have invested in have an average weighted prospective yield of 6.47 per cent and a his-toric yield of 7.83 per cent.”

Chelsea Financial Services head of research Juliet Schooling says: “Europe has not been a big area of investment for some time and now the dismal news makes investors nervous.”

She feels avoidance of the area means there will be value in the long-term.

She says: “We do not know if the sovereign debt situation is going to get worse before it gets better. However, there are some strong countries in Europe and it is all getting tarnished with the periphery brush.

“Most managers are staying out of peripheral Europe but the odd tactical play on undervalued com-panies in Europe is under-standable, given they are the ones that could shoot up in value if the sovereign debt situation is resolved.”



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