November 26, 2012
|Dean Tenerelli, portfolio manager of the European Stock Fund; Raymond A. Mills, portfolio manager of the Overseas Stock Fund; and Michael Della Vedova, manager of the European High Yield Bond Strategy.|
Recession is the watchword of the year in Europe, as each passing month brings grim news of stagnant growth, weaker manufacturing activity, and accelerating levels of the so-called misery index based on unemployment and inflation, which stood at a 15-year high in August. Despite the bleak news, however, T. Rowe Price investment professionals see a number of investment opportunities in equities and fixed income securities throughout the Continent. The following Price Points reflects the views of Dean Tenerelli, portfolio manager of the European Stock Fund; Raymond A. Mills, portfolio manager of the Overseas Stock Fund, with about 37% of assets in Europe as of September 30, 2012; and Michael Della Vedova, manager of the European High Yield Bond Strategy.
- Investment managers are encouraged by the European Central Bank's recent moves to bolster bank liquidity by agreeing to purchase government debt of countries willing to sign up for a restructuring plan.
- Unemployment is likely to remain high, which will impair the European recovery for years to come.
- Economic growth could worsen over the near term as countries struggle to implement growth measures amid intensifying budget challenges.
- Despite many short-term obstacles to growth, many eurozone countries have slashed budgets and instituted labor and pension reforms that should benefit their economies over the long term.
- European corporations have made major progress by cutting costs and strengthening their balance sheets, leading to improved earnings power and cash flow generation.
- Faced with muted growth in local markets, managers have increasingly looked overseas for growth opportunities and today have a large presence in, or exposure to, emerging markets.
- While European stock markets have gained traction in recent months, valuations are at 25-year lows.
- Earnings are likely to be challenged to grow robustly until structural economic issues are addressed.
- Managers are finding a number of investment opportunities in northern European companies in the consumer discretionary, industrials and business services, and health care sectors.
- Mr. Tenerelli and Mr. Mills have lowered their allocation to the financials sector, especially in Europe's periphery, due to continuing debt and lending pressures.
- Managers say that European market volatility has enabled them to buy attractive stocks at what they consider to be a discount over the past several months, including some that have considerable exposure within Europe.
- The European high yield corporate bond market offers attractive yields and has become a significant asset class.
- European high yield bonds have been among the top-performing developed market fixed income asset classes in the 12 months through September (in euros).
- Supply of high yield bonds has risen sharply as many European companies have been unable to refinance existing loans amid the continued process of bank deleveraging.
- A number of prominent companies have seen their debt ratings downgraded in recent months and years, prompting them to become major participants in the high yield market.
Funds that invest overseas generally carry more risk than funds that invest strictly in U.S. assets. Funds investing in a single country or limited geographic region tend to be riskier than more diversified funds.
Companies issuing high yield bonds are not as strong financially as those with higher credit ratings, so the bonds are usually considered speculative investments. These companies are more vulnerable to financial setbacks and recession than more creditworthy companies, which may impair their ability to make interest and principal payments.