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Thoughts on Europe and France in particular – Bastille day; Syz Bank

Written by Adrien Pichoud, Chief Economist at Syz Bank:

High inflation has precipitated a growth slowdown in developed economies, with Europe now facing the highest risk of stagflation due to the ongoing energy crisis.

Germany is at the forefront of those concerns given its heavy reliance on Russian gas imports. However, all European economies are at risk of experiencing a pronounced slowdown in the second half of the year if uncertainties around gas supply persist beyond the summer. Including those with a more diversified mix of energy supply like France.

In this context, the ECB is in an extremely uncomfortable position, faced with a combination of:

    • High and running inflation driven by rising energy prices, rising wages and a falling EUR
    • Significant downside risks on growth due to high inflation and the developing energy crisis
    • Risks of resurgence in sovereign spread tensions

The ECB’s initial plan of a “gradual” interest rate normalization starting in the second half of the year is now undermined by this unexpected deterioration in economic prospects.

Fiscal intervention might come to the rescue in order to cushion the blow from rising energy prices for households. The political mindset has changed in major European capitals after the Covid crisis and with the recent changes in Parliaments’ majorities. However, the shockwaves from the war in Ukraine and sanctions on Russia are likely to keep volatility on European financial markets at a high level going forward.  

 

Written by Said Tazi, Senior Portfolio Manager at Syz Bank:

High inflation has precipitated a growth slowdown in developed economies, with Europe now facing the highest risk of stagflation due to the ongoing energy crisis. 

Germany is at the forefront of those concerns given its heavy reliance on Russian gas imports. However, all European economies are at risk of experiencing a pronounced slowdown in the second half of the year if uncertainties around gas supply persist beyond the summer. Including those with a more diversified mix of energy supply like France.

In this grim context for companies and consumers it is surprising that earnings expectations have not readjusted much lower. We believe Q2 results from companies will disappoint and drag equity markets lower.

French auto-makers and industrial groups are suffering from a slowdown in demand as consumers are in bad shape. Besides, higher energy and raw materials costs will impact their profitability.

In general the French market benefits from the resilience of its luxury and consumer sector. Companies such as LVMHHermès or l’Oréal are great companies that are very well run and have been thriving in the last few years. They are not too reliant on the domestic consumer and hence should not be too impacted by the negative economic situation in Europe.

Unfortunately, their main growth opportunity has been China which is going through Covid lockdowns. As such they should not be as resilient as in the past.

We are cautious on European equities despite lower valuations because of all the uncertainties mentioned above

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