Smart investors sail to calm EU waters

Fiscal crises have battered eurozone economies – but there are still investment and fund gems to be found

(AP)

European economies appear to be in collective meltdown with Greece facing a financial crisis, Spain struggling to crawl out of a punishing recession and the euro still weak. Even the most optimistic estimates for GDP growth in the EU are lacklustre, while some observers suggest further problems could be afoot as governments battle high debt levels and people have less cash to spend.

Against such a backdrop it is not surprising investors have lost interest. IMA Europe excluding UK was the worst-selling retail sector in 2008 and 2009, while more than £50m was withdrawn from funds in January this year alone. But those who are turning their backs on the EU could miss out on a tremendous buying opportunity, says Oliver Russ, manager of the Ignis Argonaut European Income fund.

"The fact is that Europe is a neglected asset, and these can usually be bought cheap and make you money," he says. "Investors are negative on Europe because of how the economies are run, but they should be paying more attention to the actual companies." Europe is home to some of the most well-known corporate giants on the planet, including the watch-maker Swatch, oil giant Total, pharmaceuticals company Novartis and electrical and engineering group Siemens. As these international powerhouses are not solely focused on selling their goods within Europe, it means they are not reliant on those countries in the region that enjoy a positive economic outlook.

For Alister Hibbert, of the BlackRock European Dynamic fund, this is a key consideration. He says Europe is particularly strong in sectors such as luxury goods and retail which export around the world. "European equities are expected to benefit when the global economy accelerates again because the region has higher exposure to the emerging markets than either the US or Japan," he explains. "This makes Europe particularly attractive."

Many companies are also in good shape, having taken radical action to put their finances in order. Nicholas Dowell, of HSBC's European Growth fund, says: "The corporate sector received a massive shock towards the end of 2008. The response was a dash for cash, with cuts in inventory and capital expenditure. The result has been strong cash generation and improvements in balance sheets."

Europe should also benefit from its exposure to growth areas linked to a rising and ageing global population, he adds. For those willing to look beyond the gloomy macro-economic numbers, there are plenty of potential gems to be found. "Syngenta is a global leader in crop protection and seed technology which allows countries to raise farming productivity and grow more food," adds Dowell. "There are also opportunities in areas such as kidney dialysis, where demand is growing."

Cruising is also a flourishing business and Europe has two of the key players: Carnival and Royal Caribbean Cruises. "Demand for cruise holidays has been rising and there has also been industry consolidation," Dowell says. "In 1995, there were 13 key players but now there are just four."

Not only are positive global factors at play, but there is hope that the outlook for core European economies will also improve. Nick Williams, of the Baring Europe Select fund, anticipates a slow recovery. "Scandinavian and German economies look best set to recover in the short term, followed by Benelux and France," he says. "Italy, Ireland, Portugal, Spain and Greece face serious budgetary and fiscal challenges which will temper their recoveries over the next two or three years."

Those challenges are a concern for some advisers. Although Andrew Merricks, head of investments at Skerritt Consultants, has a couple of European funds, he also admits to being nervous about exposure to the region. "Europe has an awful lot to offer but you have to be extremely careful who you choose to access it on your behalf," he says.

"The region is in generally better shape than the UK but there are concerns with Greece and Spain. I am not saying investors should steer clear – but just be ready to hop out quickly."

The funds he likes at present include Eclectica European as it takes a more cautious approach, as well as the new Henderson European Special Situations fund run by the experienced Richard Pease.

Amanda Davidson, director of wealth planner Baigrie Davies, also has her reservations about Europe but believes it should still play a part in portfolios, with emerging and central Europe offering opportunities. "It would be unusual not to have at least some of a client's portfolio exposed to Europe. If that was the case, it would be at their request, such as if they disliked the sector or already held some European investments," she explains. However, Darius McDermott, managing director of Chelsea Financial Services, says exposure to Europe must be considered regardless of the economic outlook for certain countries and sectors. "A lot less money has been going into it over the past couple of years but I believe it should be part of a balanced portfolio because it will outperform other markets at certain points in the market cycle," he says.

The fact Europe is far broader than the UK market must also be taken into account. "There are many advantages to Europe but it tends to be unloved and under-owned," he adds. "For example, those seeking income will find the number of companies paying dividends is not as concentrated as it is in the UK."

McDermott says the Neptune European Opportunities and BlackRock Continental European funds are worth a look, adding: "They both have solid processes and good managers. Neptune starts with a top-down view of the world to get positioning right and then adds stock-picking, while BlackRock is more of a stock-picking fund."

Despite the distinct lack of investor enthusiasm, the competitive IMA Europe excluding UK has delivered reasonable returns with an average increase of 53.26 per cent, according to Morningstar figures to 12 March. This makes it the 12th best performer out of 32. Tailing the 79.22 per cent achieved by IMA Global Emerging Markets, but comfortably ahead of UK Gilts (-4.04 per cent), IMA £ Corporate Bond (24.39 per cent), and IMA Absolute Return (12.57 per cent).

However, performances recorded between the 105 funds that currently make up the Europe excluding UK sector have varied enormously depending on where they have been positioned and the success or otherwise of stock and sector calls. These have ranged over the past year from 26.05 per cent delivered by the CF Odey Continental European fund to the staggering 124.1 per cent return of the Invesco Perpetual European Opportunities fund, according to Morningstar figures to 12 March.

Since 2005, the star has been the Neptune European Opportunities fund, which has returned 103.06 per cent to 12 March. Artemis European Growth is worst with a comparatively modest 15.65 per cent. Adrian Bignell, head of Invesco's Perpetual European Opportunities fund attributes its strong performance to being positioned in the correct areas during 2009.

"We had a reasonably high amount in small and mid-cap names, particularly distressed names that had been sold aggressively by hedge funds, which were undervalued and ended up bouncing back," he says. "We also bought into financials with strong investment banking franchises that were well capitalised, such as Credit Suisse, Deutsche Bank and BNP Paribas."

At present the fund is rather defensively skewed with an overweight position in pharmaceuticals. "We like some of the ignored steady growth stories that have good cash flows, and think there is lots of value in certain niche areas," Bignell adds.

There could be plenty of upside from investing in Europe at current levels, but those that do choose to get involved need to steel themselves for a potentially rocky time, according to Kevin Lilley, of the Royal London European Growth Trust.

"Any further negative news flow out of those European countries viewed as problem children will add further volatility to the market," warns Bignell. "The risk is that growth stalls and we have a double-dip recession – but that is not what I am forecasting."

For Nick Williams at Barings, the major issue is how the wider global economy shapes up. He says: "The key concerns for markets remain the extent and durability of the US economic recovery and China's ability to manage its urbanisation."

Checklist: Individual Savings Accounts

* The amount you can save for tax-free gains in a stocks and shares ISA each year is currently £7,200 – or £10,200 if you are 50 or over. You must use this year's allowance by the end of the tax year on 5 April, or lose it.

* You have a further ISA allowance for the 2010-11 tax year which you can use from 6 April. From that date, the sum rises for all – to £10,200. Alistair Darling announced in this week's Budget that the limits will subsequently rise each year by the annual rate of inflation. The rate will be set according to each September's inflation figures.

* Investors must act fast if they want to use this year's ISA allowance. While in theory you have until midnight on 5 April to get applications in, because of the Easter bank holidays some firms will close their doors to physical applications this Thursday. The deadline for postal applications is even closer, with some companies saying they need them to be posted by Monday. However, there are some later online ISA deadlines, although you will need to check with your chosen provider.