With Europe expanded to include emerging nations from the Eastern fringes, should we once more be looking at a pan-European approach to stock selection? The reality is that many companies now operate in a diversity of European markets but still retain their primary listings in their country of origin. This makes a difference. While there are plenty of cross-border funds, it is the underlying nature of the domestic investor that can make a difference in how shares are rated.
In the late 1990s, there was a belief that the cult of the equity was about to take off in continental Europe. Economic prosperity and the lowering of barriers within the EU were aiding corporate profitability at a time when equity markets were booming and bond returns coming down. Cheaper transaction costs were also attracting new investors. But it came to a halt as the tech bubble burst and the bear market took hold.
European investors have traditionally been more risk-averse than their US and UK counterparts. This was due partly to the lack of availability of shares. Until fairly recently, the choice available to European investors was limited. For example, 20 years ago, the value of the German stockmarket as a percentage of GDP was less than a fifth of that of the US or US. Additionally, the distribution channels available made a difference to the attitude of local investors. Stockbroking was relatively small in European financial capitals, nor had they received quite the added stimulus of the privatisation and demutualisation programmes that energised UK investors.
But the availability of bonds and an inclination to put money where it was considered safe still provided a big pull for European investors. When interest rates started to fall as economies endeavoured to harmonise ahead of the introduction of a single European currency, high-interest-rate countries like Italy saw money flowing into mutual funds. But it was bond funds that made the running, not equity funds.
Today, there is still a divide between European equities and those in the UK or US. The French authorities' clear intention of smoothing the way for a merger between Aventis and Sanofi is an indication of the way in which governments can place national interest over the influence of markets. Even so, we are closer than ever to a single European securities market. But it is ironing out the differences in regulation, registration and settlement procedures that is proving the biggest hurdle. For private investors, dealing direct in European shares can be difficult and expensive. This is an area in which we should expect great changes in the years ahead. The difference this could make to the way in which investors construct portfolios should not be underestimated.
In London, we have proved that a dematerialised process can cut costs and facilitate trading. What is needed is a Europe-wide system that will ensure that, wherever you deal, the costs are the same. Holding investments as an entry on a computer ledger is a well-established practice and it cannot be long before paper transactions are consigned to history.
In the meantime, Europe looks as if it should remain an integral part of most broadly-diversified portfolios. Expansion should stimulate business and it will not just be companies located in the new entrants that will benefit. There are many European businesses that are extending their operations eastward to take advantage of growing prosperity.