Saturday, November 18th, 2017

Europe – a tale of two halves

I was listening to a fund manager discuss the current situation in Europe and he pointed out how different is the reality in Europe from the perceptions held by many people.  The fact is that in the more developed European countries, corporations are often in excellent shape.  While their head office may be based in Europe, their actual business is worldwide.

This story is eerily similar to the worries about US companies over the last few years.  In 2009 clients were steadily asking me about how much exposure they had to the United States, as if the successful businesses of the greatest economy in the world were going to be an enduring problem.  At the time, I pointed out the government that was the source of the problems seen in the US and that the average business was in good shape (in July 2010 USA today reported that non-financial companies in the Standard & Poor’s 500 have a record $837 billion in cash).  Over the last few years the US equity market has been rising quite strongly and precisely when everyone was worried about it would have been a terrible time to avoid the US.  The same error in reasoning likely applies to people who think they should exit European investments today.

The chart below shows the geographical breakdown of the AGF Global Value Fund (Source: www.Globefund.com), the fund most commonly held by my clients that has what I consider a large European weighting.  Note that only 5% of the fund is directly exposed to even a single one of the PIIGS (Portugal, Italy, Ireland, Greece and Spain) and I believe the holdings in Spain derive much of their business from South American divisions.

The source of the problems in the European countries is government spending and borrowing.  As in the United States, the problem will persist for years to come and all through this time the management of great businesses will be busy adapting to whatever challenges they face in a competitive global economy.

When you read headlines about problems in Europe and their slowing economy, it is of little long term relevance to your investments.  These days, the prices of many European companies are at fantastically low levels on both an absolute and relative basis, not because they are about to fail but because so many speculators are worried about their future.  When they worry, they are willing to sell shares at low prices.  This is always happening somewhere and it always will.  With time, the facts and actual profits instead of emotions and speculation come to determine share prices.  By the time the speculators have figured out that things are better, share prices will have already risen significantly and usually very quickly.

I encourage all clients to not pay much attention to headlines about the irrational behaviour of national governments.  As has been the case since the dawn of the industrial revolution, I believe the ingenuity and competitiveness of entrepreneurial business leaders will enable companies to adapt to the errors of politicians and thrive in the years ahead.

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