Are things looking up in Europe?

Source: JP Morgan Asset Management

The outlook for European stock markets is looking positive, with share prices supported by hopes that significant policy action from the European Central Bank (ECB) will help to boost economic growth and corporate profits across the continent.

 ECB action to boost growth
With eurozone economic growth disappointing and inflation falling to worryingly low levels, the ECB has finally taken action. In June, the ECB announced plans to boost bank lending by providing Europe’s commercial banks with access to billions of euros of cheap long-term funding, and by making it less attractive for the banks to keep money invested with the central bank. This was followed in September by the announcement of a further cut in eurozone interest rates to new record lows, as well as measures to buy loans from banks to try to further boost the flow of credit to the economy.

Perhaps just as importantly, the ECB’s president Mario Draghi also suggested the central bank is ready to act with further stimulus measures if economic conditions deteriorate materially. Investors have reacted positively to the ECB’s actions, which seem both credible and well conceived, while expectations for further central bank action are also helping to boost investor confidence in the region.

Don’t underestimate the eurozone economy
The ECB’s measures give reassurance that the economic environment is not a critical risk factor, allowing investors to instead focus on an improvement in company profits and the relative valuation of shares compared to bonds and other regional stock markets, which is positive for European stocks.
We’re not saying that the ECB can solve all of the eurozone’s long-term economic problems on its own. This will require political courage from Europe’s governments to tackle labour reform and powerful vested interests, notably in France and Italy. Progress in these areas is likely to be slow, piecemeal and spasmodic. However, investors should not underestimate the ability of the eurozone economy to surprise in the coming months with a strong recovery as the ECB’s stimulus starts to take effect.