European Stocks Need to Show Earnings Power -- Heard on The Street

By Richard Barley 

        It looks like third time lucky for European stocks.
        While U.S. indexes like the S&P500 and Dow Jones Industrial Average have long ago surpassed their previous record highs, the Stoxx Europe 600, up 18.5% this year, is only now set to cross a mark left some 15 years ago. Even in the heady days of 2007, the index failed to beat its March 2000 peak.
        Of course, such levels are largely psychological rather than statistically significant. But given what Europe has been through in the past few years, they still matter--particularly since investors have seen the two previous peaks give way to savage bear markets.
        There is no doubt that European equities are no longer obviously cheap, trading on a multiple of around 16.6 times the next 12 months' earnings, according to FactSet. And while it is true that stocks are cheap relative to bonds, that argument is weakened by the fact that bonds are stupefyingly expensive. Just look at the widespread nature of negative yields for proof of that.
        But Europe has some powerful forces on its side. First, and most obviously, the European Central Bank is only at the start of its campaign to pump liquidity into markets by purchasing EUR1 trillion-plus ($1.08 trillion) of bonds. Credit markets should thus remain supportive for equities. The ECB's actions are coinciding with a eurozone recovery that started to emerge late last year, helped by the fall in oil prices, but now potentially made more durable by greater credit availability, ultralow interest rates and much greater confidence. Furthermore, stock markets could yet benefit from deal-making by cash-rich companies.
        Earnings are the crunch point now. While earnings for S&P500 companies are some 23% above their precrisis peak, for Stoxx 600 constituents they are 26% below, and have largely stagnated since 2010, FactSet data show. But there are some signs of hope. The fourth-quarter saw earnings rise 8.9% year-on-year, J.P. Morgan Asset Management notes. Analysts have become more bullish: Europe excluding the U.K. is the only region where earnings upgrades are outstripping downgrades, Citigroup notes. But the backdrop for earnings is good, particularly for exporters that benefit from a weaker euro.
        The speed of gains so far this year may have left investors feeling a little dizzy. But if Europe can finally deliver on earnings growth, then it could be a remarkable year for European stocks.
        Write to Richard Barley at richard.barley@wsj.com
        (END) Dow Jones Newswires

        April 09, 2015 05:44 ET (09:44 GMT)

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