European bourses rallied hard Tuesday, as Deutsche Bank recommended closing its hedge on equity exposure and going overweight stocks.
Buoyed by a rebound on Wall Street at the start of the week, the Europe-wide Stoxx 600 index
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jumped 1.6% amid hopes the Federal Reserve was now minded to halt its cycle of interest rate rises.
London-listed resources groups and China-sensitive German auto and engineering companies led the advance as sentiment was also lifted by reports Beijing was considering increasing its budget deficit to undertake a new stimulus for the world’s second biggest economy.
And more gains are likely, according to Maximilian Uleer, head of European equity and cross asset strategy at Deutsche Bank. In a new note produced with colleague Carolin Raab, Uleer says the risks that have been weighing on equity markets in the third quarter are turning into opportunities.
For example, the economic environment is improving, with eurozone purchasing manager surveys, which had declined for five months in a row, recently taking a turn for the better. Also, softer China growth is already factored in, notes Uleer, and even a mild U.S. recession “is widely anticipated by markets and would most likely have a limited impact on markets.”
Monetary policy trajectory may also now be more supportive, says Uleer: “After the recent move in implied rates (higher rates, later cuts), we now expect markets to be positively surprised by central banks next year.” On average, German bund yields fell by more than 100 basis points 12 months after the last rate hike and in 9 out of 10 cases, Uleer notes.
In addition, expectations of earnings are “sufficiently negative”. After heavy downward revisions, forecasts now seem more realistic for this year and, with consensus growth of just 3%, potentially too negative for 2024. Uleer sees earnings growth next year of 5%.
Given all this, Deutsche expects stock markets to recover in the fourth quarter and has a 2024 forecast for the Stoxx 600 of 510, sees the Euro Stoxx 50
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at 4,850 and the DAX index
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at 18,000.
Uleer was wary of equities in July and recommended hedging by buying 3-month at-the-money put options on the Euro Stoxx 50 — a position that would have tripled in value. Now Uleer says traders should close that position, which expires next week, and go overweight into stocks
Overall, Uleer says Deutsche prefers equities over fixed income: “From a multi asset perspective, we like to take risk via an overweight in equities but prefer to buy long duration government bonds with high ratings over credit. We anticipate rates to come down and correlations between government bonds with high ratings and equities to turn negative.”
