The eurozone looks different since last spring when it was in the middle of a “gloomy” period for asset prices, says M&G fund manager Steven Andrew, who is ramping up European and US equity exposure despite volatility in the markets.
He says: “It has been a challenging year for asset allocators as we saw prices allocated to assets being very stretched, but now there is more decent value after the recent sell-off.
“For us the past few weeks have provided much more of an opportunity in some areas, which continue to be appealing, so I am still happy acquiring European equities.”
European equity exposure in his £430m Episode Income fund is 12.4 per cent at present, with a concentration in German, Italian and Spanish stocks. This is a significant change from 12 months ago when the fund had zero exposure to European equity.
“This has been our key position and we are moving more aggressively on equities overall. We will only pass by the opportunity of buying into equities if we have evidence of a more worrisome place in the market for the asset class.”
He says the aim of the fund, however, remains the same, which is to grow income over time.
“The European story is more convincing than others in terms of the robustness of the expansion from a domestic perspective.
“If you just go back to 2012 or 2013, the last time that China was exerting a downward force on the global economy, Europe was on a much shakier ground in terms of its overall GDP because the service sector wasn’t growing.
“These days you look at the service sector PMI and the manufacturing PMI in Europe and they’re all getting better, not worse. So the fundamentals are pointing one way and the market another.”
Andrew has also been adding European peripheral sovereign debt, particularly to Spanish, Italian and Portuguese bonds, with his total exposure going from zero nine months ago to 13.2 per cent in December.
He says: “The market is seemingly flirting with the notion that these government bonds should trade at a wider spread over German bunds. Of course, there is always a narrative to justify that, as it is mostly a political story. The European Central Bank is standing behind national debts, such as addressing the Greek situation, which provides further support to Europe.”
Andrew also sees potential in UK equities but has reduced this position from 14.4 per cent in April to 6.8 per cent as the asset class is not one of his big calls.
On the market volatility that has made headlines since the start of 2016, Andrew’s view is people should not confuse this episode of volatility with risk.
“People are worried about oil and about the energy sector having a knock-on effect through the banking system in an unpredictable way. But the size of the energy sector’s debt relative to the overall balance sheet of banks is tiny, so it is not something that we should be concerned about.
“There are some small US banks that could go through a bit of an adjustment if the oil companies can’t pay that money back, but for the vast majority of them they can write off that debt and are not overly fussed about it because they’ve spent the last five years restoring their balance sheet to now be unusually healthy.
“When we combine that with values in an equity price sense, we are actually happy owning this.”
Andrew has increased his US equity exposure from 8 per cent in April to 15 per cent in December, adding 2.3 per cent to US banking holdings as he saw prices fall.
He says: “If you combine the data from the Federal Reserve, especially their estimates on the increasing employment rates, that says we are not going through a recession.
“Also, combine the household consumption data along with the consumer confidence improvement and the very strong car sales data and you get a complete picture of the economy that is expanding and continues to expand at a reasonably fast pace.”
Although the global outlook is “not better than mediocre”, Andrew believes there is a lot of “poor analysis” behind the prevailing pessimism in the markets.
He says: “How does the slowdown in China really impact us? There is a confluence of worry of a hangover from 2008. People are worried but without fully presenting how those worries are examined.”