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[Enterprising Investor]

European Retail and Real Estate Stocks Headed Higher (9/05/15)

Europe must still cope with China and deflation. But certain sectors still look like opportunities.

By Digby Larner

European investors received a much-needed shot in the arm last week when the European Central Bank hinted it could expand its quantitative-easing program to help combat pressure on inflation from weak commodities prices and China’s economic woes.

The Stoxx Europe 600 index closed more than 2.3% higher on Thursday after ECB President Mario Draghi stressed the central bank’s “willingness and ability to act if warranted.”

Stocks around the world have taken a battering lately, as oil prices resumed their downward path, and China, a key export market for the euro zone, continued to push out disappointing economic data. Following Thursday’s gains, the Stoxx index had still tumbled by almost 12% from the previous month.

The problems afflicting markets have upset the ECB’s efforts to lift inflation, dampening the positive impact of its 60 billion euros ($67.44 billion) a month bond-buying program launched earlier this year. As a result, its initial signs of success turned out to be short-lived.

The euro dropped to about $1.05 when QE was launched in March, but more recently crept back to around $1.12 ahead of last week’s ECB announcement.

At Thursday’s meeting, the ECB reduced its inflation forecast for this year to 0.1% from its previous figure of 0.3%, which itself was modest relative to its medium-term target of just under 2%. In August, euro-zone inflation was only 0.2% on the year. The ECB also lowered its expectations for next year to 1.1% from 1.5%, and for 2017, to 1.7% from 1.8%.

Some adjustment had been widely expected following comments from the central bank’s Chief Economist Peter Praet a week earlier, who warned the risk of Europe suffering weak inflation in the longer term had increased.

Bank of America Merrill Lynch’s Europe economist Gilles Moec had expected minor tweaking to the ECB’s monetary policy, with the possibility of a more substantial move further out. “In the medium run, we believe the negative risk to consumer prices from the China-related turmoil matters more than the adverse shock on growth,” he says.

Hopes that China’s problems weren’t as deep-rooted as some feared were shaken on Tuesday when the country published weaker-than-expected manufacturing data.

Apart from the likely positive impact on European stocks from more extensive monetary intervention, investors are buoyed by the prospect that ongoing economic weakness will continue to keep a lid on interest rates. Janus Capital reckons China’s woes and low rates will be especially helpful for Europe’s retailers and property businesses. “China’s weakness to some extent is a boon to consumers, with lower oil and gasoline prices, lower prices on imported goods such as apparel, and lower raw-material prices overall. Retailers can do well if positioned to take advantage of healthier and savvier consumers,” says Janus European Equity Strategy fund portfolio manager Wahid Chammas.

LOW INTEREST RATES, in particular, should be good for European real estate businesses, he says. “The property market is firming throughout Europe and looks especially attractive in Germany,” he says, as lower rates keep prices high and provide cheap financing for acquisitions.

He says Germany has one of the fastest growth rates in household formation, as people continue migrating from the countryside to cities and as the number of working immigrants increases. “The German housing market is one of the lowest priced when considering their [gross domestic product] per capita, their average wage rate versus house prices, and their low interest rates,” he says.

Vonovia (ticker: VNA.Germany), formerly Deutsche Annington Immobilien, Germany’s largest residential real estate player, last month reported that its funds from operations more than doubled in the first half of the year to €264.3 million from €130.3 million a year earlier. JPMorgan Cazenove’s European property analyst, Tim Leckie, described the figures as “positive” and in line with the bank’s upbeat view of the company.

He has the stock at Overweight with a €32.50 price target. It closed on Friday at €29.57.

Among retailers, says Chammas, many apparel and food “discounters” in the United Kingdom have generated strong growth that should go further. “Online retailers continue to see positive momentum, and it is another area that we expect positive growth from,” he says.

RBC Capital Markets analyst Richard Chamberlain says a challenging summer for European apparel retailers is likely to give way to a stronger fall and winter period. Among others, he favors undervalued British stocks, such as Debenhams (DEB.UK). Last week, he upgraded the company to Outperform with a 100-pence ($1.53) price target. He expects Debenhams to post its first full-year pretax profit in four years in October, something he says isn’t currently factored into the share price. The stock closed Friday at 74 pence.

http://www.barrons.com/articles/european-retail-and-real-estate-stocks-headed-higher-1441434108