While the past month has brought market volatility despite strong earnings results, BlackRock shined the spotlight on European banks as a promising performer.
European banks had a total return of 29% by the end of July, in comparison to 15% for the MSCI world index. Helen Jewell, chief investment officer of BlackRock fundamental equities for EMEA, also noted 15% growth in the financial sector throughout the second quarter, coming in only behind utilities.
“Banks sold off and recovered alongside the broader market during the August volatility. But European bank valuations sit at a PE ratio of just 6x today, versus a long-term average of around 13x since 2004,” Jewell said.
“This represents a buying opportunity, in our view, although it’s important to be selective. We believe the banks can maintain strong earnings even if interest rates fall further in Europe. We don’t see a return to the zero-rate era that followed the Global Financial Crisis.”
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However, a falling interest rate environment provides an additional challenge for the banking sector. Jewell said this will cause selectivity to be “increasingly key” for a successful investment in the sector.
Jewell pointed to loan growth in Spain and Ireland as a positive sign in Q2 earnings, as well as deposit growth in Spain, Ireland, and Germany. The era of high interest rates has also allowed banks to return cash to shareholders, with some forecasting as much as 40-50% of total market cap returned in the next three years. BlackRock’s Fundamental Equity Analysis estimated a sector average 33% of market cap returned.
“We like those banks with a strong retail franchise that are in a good position to capture deposits as wages grow. We also like some of the banks that plan to return lots of cash – meaning investors are “paid to wait” for valuations in select names to rebound to a level we believe is more appropriate given earnings potential,” Jewell said.
“We have been saying since the start of this new investment regime – of higher rates and sticky elements of inflation – that we expect higher volatility and greater dispersion in earnings.
“We believe this can be a rewarding environment for skilled stock pickers to take advantage of market jitters to add to positions where the fundamental earnings case remains strong – and some of the European banks fit this description.”
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