Citi Predicts Positive Outlook for European Cyclical Stocks
Citi Analysis of European Stocks and Chinese Economy
Recent economic measures taken by Chinese authorities aim to bolster the country's economy, which has sparked interest among analysts at Citi Research. They noted significant actions, including cuts in policy rates and reserve requirement ratios and initiatives to reduce mortgage rates for first and second-home buyers.
Market Reactions to New Economic Policies
A new equity market support facility has also emerged as a key development. While some of these policy changes, such as rate cuts and mortgage relief, were anticipated, others, particularly the 25-50 basis point cut in the reserve requirement ratio (RRR) and the easing of down payment requirements, caught many off guard, leading to a positive rally in stocks closely associated with China.
Long-Term Growth Concerns
Despite the uplift in market activity, Citi economists express caution, indicating that these policy measures may not adequately address the more profound issue of weak credit demand. The analysts emphasize that mere liquidity support might not substantially shift China’s growth trajectory, and more robust fiscal approaches may be necessary to enhance the economic forecast.
European Market Implications
This shift towards policy support in China carries particular weight for European stocks that have strong ties to the Chinese market. Throughout the year, sectors linked to China have struggled, often lagging behind broader indices like the Stoxx 600 and the MSCI China index. Sectors such as luxury goods, IT, autos, and basic resources have faced substantial declines in earnings and valuations.
Revised Earnings Expectations and Market Dynamics
The earnings outlook for European stocks sensitive to China’s economy has seen a major downward revision, with expectations dropping by around 10% for 2024, illustrating a stark contrast to the broader market's minor adjustments. As these sectors experience declining forward price-to-earnings ratios, any signs of stabilization within China may act as a catalyst for a promising recovery.
Contrarian Signals Indicating Market Rebounds
An interesting aspect of this analysis is the contrarian signal linked to the significant earnings downgrades. Companies in the MSCI Europe are witnessing an Earnings Revision Index (ERI) that has dipped to -39%, and European cyclicals have fared even worse with a drop to -50%. Historically, these negative readings frequently precede market rebounds, with substantial recoveries often ranging around 13% in the year following an ERI of this magnitude.
Outlook for Cyclical Stocks amid Central Bank Policies
As central banks worldwide, including the U.S. Federal Reserve, lean toward a more accommodative monetary stance, cyclicals are expected to outperform their defensive counterparts. Such trends are typically seen during periods of rate cuts, which have traditionally supported equity markets outside of major economic downturns.
Seasonal Trends Favoring Cyclicals
Furthermore, historical patterns reveal a favorable environment for cyclical stocks as the year-end approaches, suggesting that current market dynamics may favor these investments moving forward. In light of these trends, Citi has recalibrated its European sector strategy, emphasizing a balanced approach. The firm is maintaining overweight positions in defensive growth sectors such as technology and healthcare while selectively increasing exposure to cyclical stocks.
Upgrades and Adjustments in Sector Strategies
Recently, the autos sector received an upgrade to a “neutral” rating by Citi, attributed to the rising optimism linked to policy support from China. Basic resources also earned a neutral rating as improved conditions in China appear to enhance prospects for commodities.
Concurrently, Citi has taken a more cautious stance by decreasing its exposure to defensive areas. Sectors such as food and beverages have been downgraded, alongside telecoms shifting to an underweight status, as analysts predict that these industries will encounter challenges relative to the improving cyclical market.
While concerns regarding China's overall growth persist, any signs of stabilization from these recent policy adjustments bring a glimmer of hope, particularly for European cyclical sectors.
Frequently Asked Questions
What measures have Chinese authorities implemented recently?
Chinese authorities have reduced policy rates, eased reserve requirements, and lowered mortgage rates to support their economy.
How have European stocks linked to China reacted?
European stocks connected to China have underperformed significantly this year, but recent developments may lead to a recovery.
What is Citi's outlook for China's growth?
Citi maintains a growth forecast of 4.7% for China in 2024, emphasizing the need for more fiscal support.
What does the Earnings Revision Index indicate?
The declining ERI for European stocks hints at potential market rebounds based on historical trends.
What sectors is Citi focusing on currently?
Citi has upgraded cyclical sectors like autos and basic resources while downgrading defensive sectors amid changing market dynamics.
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