DGAP-News: Silvia Quandt&Cie. AG, Merchant&Investment Banking: In-between the lines - Bernhard Eschweiler
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Key word(s): Miscellaneous
Silvia Quandt&Cie. AG, Merchant&Investment Banking: In-between the
lines - Bernhard Eschweiler
08.04.2011 / 09:29
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- Equity markets have recovered quickly from the Japan shock
- Discounting the impact of nuclear contamination may be premature, .
- . but there are many other reasons to be optimistic for stocks, .
- . especially German equity
Global equity markets have recovered their losses since the Japanese
earthquake four weeks ago. This is also true for the German market, which
was one of the hardest hit and now trades higher than the levels seen
before the earthquake. The buoyancy displayed by equity markets appears
cruel given the human tragedy caused by the earthquake, tsunami and nuclear
catastrophe. Moreover, equity markets may have discounted too much of the
risk of a nuclear contamination and the implication for the global economy.
On the other hand, the resilience of stock markets in the face of the
events in Japan as well as the turmoil in North Africa and rising oil
prices is a sign that equity is on an uptrend. The following outlines ten
factors - structural and cyclical - that underpin the favorable outlook for
stocks, especially in Germany.
The golden age of bonds has come to an end
- The financial mega-trend over the last three decades was the structural
decline in bond yields. This has boosted the performance of bonds
relative to stocks. Indeed, bonds outperformed stocks on a
risk-adjusted basis over the last thirty years. When ten-year yields
of US Treasuries and German Bunds approached 2% at the middle of last
year, however, a natural boundary had been reached. Only a Japan-like
deflation scenario could justify lower yields. Even then, the downside
would have been limited. Long-term government bond yields have picked
up more than 100 basis points since the lows last year. The reversal
is partly cyclical, but structural forces are at work as well.
Notably, the trend decline in inflation is over, while governments are
struggling to rein their deficits and surging public debt.
- Germany is a particular case. German unification and European monetary
union had a depressing effect on growth and inflation. Higher savings
also drove down the risk premium for bonds. But now the situation has
turned around. More than a decade of reforms as well as the reversal
in Euro-area monetary conditions have put the economy on a higher
growth trajectory. Potential growth has moved up from 1.3% in the mid
2000s to at least 2%. On the other hand, the slump in the Euro-zone
periphery will prevent the ECB from moving more aggressively to contain
German inflation. And while Germans are unlikely to go on a spending
spree, the saving rate will probably not rise further, meaning the risk
premium will no longer fall. Adding up the numbers points to higher
bond yields.
- The German equity market underperformed its European peers in the past
and was punished with a lower price-earnings ratio. The reward for
Germany's reforms is not only higher economic growth, but also higher
earnings growth. This will make the German stock market more
attractive compared to its European peers and should lead to a
structural revaluation of the price-earnings ratio.
- Some fear that inflation may spiral out of control in Germany and
elsewhere due to the money ECB and Fed pumped into the system.
However, there is no indication that broader monetary aggregates are
accelerating. Underlying price pressures in Germany are simply the
result of the economy doing better than it used to in the past. Stocks
are not a perfect inflation hedge, but they offer better protection
than bonds in this type of inflation scenario.
- Investors, both institutional as well as individual, have jumped on the
bond wagon during the last two decades, further compounding the rally.
German private households raised the share of direct and indirect bond
holdings in total financial assets from a third to about half, while
the share of their direct and indirect equity holdings dropped from a
quarter at the height of the dot-com boom to just an eighth. German
investors are underweight equity, both by their own historic as well as
international standards. This worked well as long as bonds performed,
but no longer. Behavior, institutional and regulatory constraints will
prevent a sudden shift, but a gradual move from bonds into equity has
begun and is likely to continue for a long time.
The cycle is still young
- On the cyclical side, the main plus is that the cycle is still young.
The German economy is not over-stretched, margins are strong and
leverage is not excessive. The ECB has just started to raise rates,
but its room is limited given the state of the Euro periphery. This
type of early-cycle policy normalization is unlikely to derail equity
markets.
- Irrespective whether the German stock market will experience a
structural upgrade, there is room for valuations to move up on cyclical
grounds. DAX prices are currently ten times future earnings. This is
low even by the moderate pre-crisis P/E ratio of 12-to-14. Equity
valuations look even cheaper compared to bonds. The DAX earnings yield
is three times the yield of 10-year Bunds. In the pre-crisis cycle,
the earnings yield was roughly double the bond yield. Some of the
valuation gap will be closed by bond yields moving higher, but that
still leaves plenty of room for equity prices to rise as well. Stocks
are also attractive versus bonds based on dividend yields. The DAX
dividend yield stands currently at 3.6% and that level is likely to
move higher in coming weeks as more companies announce higher
dividends. Even so, favorable valuations are not enough to move
markets. What is needed are positive news and higher risk appetite.
- German consensus estimates are still cautious. A good example is the
consensus forecasts for the IFO index since last summer. Every new
release exceeded expectations, yet the consensus forecast for the
following report was always a lower figure. To be sure, the IFO is
unlikely to just keep on rising, but its outperformance demonstrates
that the consensus underestimates the economic momentum. Going forward
chances are probably good that economic and earnings news will continue
to surprise on the high side (just recall yesterday's
better-than-expected manufacturing orders).
- Events in North Africa and Japan disrupted the trend decline in market
risk measures like the VIX and the V-DAX, but the way equity markets
shook off the bad news is probably the best proof that risk appetite is
rising. This is also reflected in the gradual shift from bond funds
into equity funds.
- Another catalyst is M&A activity, which picked up since the start of
the year. Examples are the sale of Deutsche Telekom's North America
operation to AT&T and the triangular bids between Deutsche Börse, NYSE
and NASDAQ. Market expectations of further sector consolidation were
also inspired by transactions like Rhodia/Solvay and National
Semiconductor/Texas Instruments.
Disclaimer
This analysis was prepared by Bernhard Eschweiler, Senior Economic Advisor,
and was first published 8 April 2011, Silvia Quandt Research GmbH,
Grüneburgweg 18, 60322 Frankfurt is responsible for its preparation. German
Regulatory Authority: Bundesanstalt für Finanzdienstleistungsaufsicht
(BaFin), Graurheindorfer Str. 108, 53117 Bonn and Lurgiallee 12, 60439
Frankfurt.
Publication according to article 5 (4) no. 3 of the German Regulation
concerning the analysis of financial instruments (Finanzanalyseverordnung):
Number of recommendations Thereof recommendations for issuers to which
from Silvia Quandt Research investment banking services were provided
during
GmbH in 2011 the preceding twelve months
Buys: 94 35
Neutral: 37 1
Avoid: 4 0
Company disclosures
Article 34b of the German Securities Trading Act (Wertpapierhandelsgesetz)
in combination with the German regulation concerning the analysis of
financial instruments (Finanzanalyseverordnung) requires an enterprise
preparing a securities analysis to point out possible conflicts of interest
with respect to the company or companies that are the subject of the
analysis. A conflict of interest is presumed to exist, in particular, if an
enterprise preparing a security analysis:
(a) holds more than 5 % of the share capital of the company or companies
analysed;
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securities of the company or companies in the previous 12 months;
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analysed during the last 12 months for which a compensation has been or
will be paid;
(d) is serving as a liquidity provider for the company's securities by
issuing buy and sell orders;
(e) is party to an agreement with the company or companies that is the
subject of the analysis relating to the production of the recommendation;
(f) or the analyst covering the issue has other significant financial
interests with respect to the company or companies that are the subject of
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In this respective analysis the following of the above-mentioned conflicts
of interests exist: none
Silvia Quandt Research GmbH, Silvia Quandt&Cie. AG, and its affiliated
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current price during the following 6 - 12-months. These securities are
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expected negative absolute performance of more than 10% and an
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Securities where the current share price is within a 10% range of the
sector performance are rated 'neutral'. Securities prices used in this
report are closing prices of the day before publication unless a different
date is stated. With regard to unlisted securities median market prices are
used based on various important broker sources (OTC-Market).
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Frankfurt am Main, 08.04.2011
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Datum: 08.04.2011 - 09:29 Uhr
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