Ger­many is build­ing a come­back as US mar­ket fal­ters

‘The US stock mar­ket has be­come a play on the digital econ­omy, dom­i­nated by a hand­ful of com­pa­nies’

The Daily Telegraph - Business - - Business Comment - tom steven­son Tom Steven­son is an in­vest­ment di­rec­tor at Fidelity In­ter­na­tional. The views are his own. He tweets at @tom­steven­son63

Bet­ting against the tech-fu­elled US stock mar­ket has been such a bad idea for so long now that it is hard to ac­cept that its pre-em­i­nence might not be a rule of na­ture.

What if in­vestors should lift their gaze from Wall Street? And what if they should start to look at a re­gion long writ­ten off as a low-growth, age­ing, bu­reau­cratic bas­ket case? Is it time for Ger­many to pick up the stock mar­ket ba­ton?

Look­ing at the re­cent per­for­mance of Frank­furt’s Dax 30 in­dex and that of the S&P 500, there’s noth­ing to choose be­tween the Ger­man and US bench­marks. Since the be­gin­ning of the year, the two mar­kets have moved in lock step and both are close to where they started 2020.

Zoom in a bit fur­ther and the Dax is ac­tu­ally start­ing to pull away. It has risen 13pc since the be­gin­ning of June, around twice the S&P’s gain over the same pe­riod.

The UK and Ja­panese mar­kets have, by the way, both moved side­ways over those two months.

In part, this sim­ply re­flects the dif­fer­ing pan­demic ex­pe­ri­ences in Ger­many and the US. Ger­many has faced ex­actly the same chal­lenge as other coun­tries – its 183,000 infections by the be­gin­ning of June ranked it ninth in the world.

But its death rate, at around 100 per mil­lion of pop­u­la­tion, has been a frac­tion of that in other Euro­pean coun­tries.

De­spite one of the re­gion’s least­dra­co­nian lock­downs, Ger­many was able to de­clare the out­break un­der con­trol within six weeks of its first death. By con­trast, Amer­ica re­mains in the grip of the pan­demic, with one in four of the world’s to­tal infections and more than a fifth of deaths.

The rapid emer­gence from the Covid-19 cri­sis is show­ing up in Ger­many’s eco­nomic data, with last week’s pur­chas­ing man­agers’ in­dices for ser­vices and man­u­fac­tur­ing both sig­nif­i­cantly bet­ter than ex­pected. By con­trast, the re­cov­ery in Amer­ica’s fa­mously flex­i­ble jobs mar­ket ground to a halt last week, with the first weekly rise in un­em­ploy­ment ben­e­fit claims for four months just days be­fore a $600-a-week (£469) life­line for the job­less is due to ex­pire.

The im­prove­ment in the Ger­man econ­omy is start­ing to be re­flected in the more cycli­cal parts of the stock mar­ket, which have sig­nif­i­cantly lagged the de­fen­sive firms favoured by in­vestors in re­cent years.

Con­sumer in­dus­tries such as re­tail, which are de­pen­dent on a healthy eco­nomic back­drop, are an im­por­tant con­trib­u­tor to the Dax’s per­for­mance.

They ac­count for 17pc of the mar­ket, ahead of the 14pc the same in­dus­tries rep­re­sent in the US.

And while tech­nol­ogy has been a key driver of the US mar­ket, Ger­many is no slouch on this front ei­ther.

Tech stocks such as SAP ac­count for 16pc of Ger­many’s mar­ket, more than twice the pro­por­tion in Europe as a whole. Ger­many’s ad­van­tage is helped by a rel­a­tively small weight­ing in the un­der­per­form­ing oil and gas in­dus­try, which has been ham­mered by a crude price slump.

Last week, there was another key po­lit­i­cal devel­op­ment, with the agree­ment – af­ter a typ­i­cal se­ries of all-night ta­ble-thump­ing ses­sions – of a €750bn (£683bn) re­cov­ery fund for the re­gion. This was a hugely sym­bolic devel­op­ment, a step to­wards the fis­cal in­te­gra­tion that most peo­ple agree has been the miss­ing in­gre­di­ent from the euro­zone project. What an­a­lysts take as ten­ta­tive signs of po­lit­i­cal har­mony in Europe are a stark con­trast to the ran­cour in Wash­ing­ton that will only deepen as we head to­wards Novem­ber’s pres­i­den­tial elec­tion.

The im­pact is be­ing felt in the rel­a­tive for­tunes of the euro and dol­lar, with strate­gists at Gold­man Sachs now fore­cast­ing a rise in the euro cur­rency to $1.25 over the next 12 months – a 17pc in­crease from its low point in March.

The strength of the euro is a two-edged sword, of course, with a stronger cur­rency mak­ing Euro­pean ex­ports more ex­pen­sive. But the same an­a­lysts at Gold­man be­lieve that com­pany earn­ings in Europe are more sen­si­tive to changes in eco­nomic ac­tiv­ity than what’s hap­pen­ing in the for­eign ex­change mar­ket. A ris­ing euro also makes Euro­pean as­sets more at­trac­tive to over­seas in­vestors, which will help to over­come the re­sis­tance to in­vest­ing in Europe since the sovereign debt cri­sis of nearly a decade ago.

One of the main ar­gu­ments against in­vest­ing in Europe has been the be­lief that the star com­pa­nies of the new digital econ­omy are largely to be found in the US and China.

There is some ev­i­dence to sup­port this. In­ter­net com­pa­nies ac­count for 22pc of Asian stock mar­kets out­side Ja­pan and just 6pc in Europe.

It’s also the case that 40pc of com­pa­nies in the S&P 500 can boast a con­sis­tent re­turn on cap­i­tal em­ployed of more than 15pc ver­sus just a quar­ter of Euro­pean businesses.

But it is also ar­guable that this is a back­ward-look­ing mea­sure that doesn’t take ac­count of Europe’s lead in the “green” tech­nolo­gies that might dom­i­nate the next few decades as the re­gion com­mits to zero car­bon emis­sions by 2050.

We should not be blind to the on­go­ing risks of in­vest­ing in Ger­many, and Europe more gen­er­ally. The re­gion con­tin­ues to suf­fer from a range of struc­tural prob­lems. Its labour mar­ket is slower to ad­just to chang­ing cir­cum­stances than Amer­ica’s; low in­fla­tion and con­se­quently low bond yields are a mill­stone around the neck of Europe’s banks; the pop­u­la­tion trends in Europe are still un­favourable; and val­u­a­tions are cheaper than those in the US, but not mas­sively so.

But the re­cent un­der­per­for­mance of Nasdaq and the tech­nol­ogy con­stituents in the S&P 500 in­dex are a wor­ry­ing straw in the wind.

It re­minds us that the US stock mar­ket has in­creas­ingly be­come a play on the digital econ­omy, dom­i­nated by a hand­ful of highly priced com­pa­nies that are vul­ner­a­ble to a less favourable reg­u­la­tory en­vi­ron­ment af­ter Novem­ber if the Democrats take the White House. Europe, and Ger­many in par­tic­u­lar, is march­ing to a dif­fer­ent beat and could pro­vide some use­ful di­ver­si­fi­ca­tion in this US elec­tion year.

An­gela Merkel, the Ger­man chan­cel­lor, dis­cusses a post-virus res­cue plan with other EU lead­ers in Brus­sels

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