An opportunity in small caps

AN OPPORTUNITY IN SMALL CAPS (0956 GMT)

Marlborough Investment Management's CIO for multiasset Nathan Sweeney believes small-caps "look particularly interesting", given the deep sell-off due to higher rates and higher financing costs.

Since the start of 2022, MSCI's Europe Small and Mid Cap Index (.MIEU000D0PEU) has dropped almost 20%, compared to around a 10% drop for the MSCI Europe Index (.dMIEU00000PUS).

"If you start to see any hint of rate cuts, we should see an acceleration in small caps," Sweeney says.

"We have seen a couple of sparks igniting as people are coming around to the conclusion that we're getting to the end of the rate-rising cycle," Sweeney adds.

Sweeney highlights that valuations are at "extreme" levels relative to history, meaning small caps are very oversold.

"You know, why?" Sweeney asks, "Because we've had this higher rate environment, but I think what people have gotten wrong is that they believe that inflation is likely to be sustainable for an extended period."

"There's no real demand side inflation coming through and that gives the central banks the optionality to reduce rates."

"That's something the market has overlooked and means it's pretty good for them (small caps)."

(Samuel Indyk)

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EXPLAINING GERMAN EQUITIES' RESILIENCE IN 2023 (0907 GMT)

Germany's DAX DAX is up 13.4% in 2023, beating the STOXX 600 SXXP which is up 7.4%.

But the performance is described as a mystery by Goldman Sachs equity strategists, who say by their indications, Germany is in recession.

Its economy has also been at the crossroads of a list of global issues. To name a few; an embattled manufacturing sector, China's disappointing reopening and higher energy costs which risk de-industrialisation.

To explain the DAX's resilience despite this poor environment, they point out heavy sector exposure to autos and tech, which comprise about half of the index. In Europe, those sectors are up 10% to 20% year-to-date.

Meanwhile, two of the worst performing sectors - energy and basic resources - are not represented in the DAX to any great extent, say GS.

Another factor at play is the cyclical rebound.

"Year-to-date, EPS have been revised up for Cyclicals and down for Defensives which helped the DAX," they write, adding that central banks appear to have brought down inflation and land the global economy softly.

The drop in the natural gas price is another reason, along with hard data being more resilient than soft data as of late.

Finally CAPEX beneficiaries abound in Germany, supported by increased defence spending, the U.S's inflation reduction act, the EU Recovery Fund and the German government's own budget to electrify the economy and accelerate the energy transition.

"Basically, things have not been as bad as feared, so markets have reassessed the risks around Germany: the DAX up 30% from its trough last year," they conclude.

As for the outlook?

Lower gas prices, a turn in sentiment on emerging markets, and the strength of the consumer should help the German index.

"A bottom-up aggregation of the price target from our Equity Research analysts would suggest 28% upside on the DAX and 22% on the MDAX compared with 23% for the STOXX 600."

(Lucy Raitano)

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HAPPY MONDAY FOR EUROPEAN SHARES (0802 GMT)

A broad-based rally in European shares has pushed the STOXX 600 SXXP to its highest in a week today, led by gains in European mining and banking stocks.

Basic resources shares (.SXPP), up 2.7%, are set for their biggest one-day jump since July 25 on upbeat Chinese data that showed an easing of deflationary pressures and new bank lending rising more than expected.

Europe's media (.SXMP) and telecoms (.SXKP) stocks are both scaling late July highs, while oil & gas (.SXEP) shares are at their highest since March, as Brent crude futures (.LCOc1) hold above $90/barrel.

That pushed the pan-European STOXX 600 up 0.8% to its highest since Sept. 4.

Germany's DAX DAX, France's CAC 40 PX1 and Britain's FTSE 100 UK100 are all up 0.7%-0.9%.

In corporate news, shares in British homebuilder Vistry (.VTYV.L) are surging 14%, the biggest one-day jump since November 2020, after plans to merge its units to focus on affordable housing.

Here's your opening snapshot:

(Samuel Indyk)

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EUROPEAN FUTURES TICK HIGHER (0631 GMT)

European equity futures are pointing to a higher open on Monday in a potentially busy week, with U.S. inflation data and the European Central Bank policy meeting on the docket, while Fed policymakers have now entered their blackout period before their September policy meeting.

Euro STOXX 50 FESX1! futures are up 0.3% before the open, while futures on Britain's FTSE Z1!, Germany's DAX DAX1! and France's CAC 40 (FCEc1) are all up by around 0.3% too.

In corporate news, Covestro 1COV will be in focus after the firm entered formal talks with ADNOC over a possible $12 billion takeover.

(Samuel Indyk)

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CHINA'S WEAK PROPERTY STOCKS SET THE PACE (0553 GMT)

A light calendar for Europe today means markets are likely to take their cues from Asia, and there's a lot going on - particularly in China.

Property shares are taking a beating after weekend data showed new home sales in China's biggest cities slumped by half in the first week of this month.

Country Garden, China's biggest private developer, added to pressure on the sector at the centre of the country's economic woes as it faces a new round of voting by creditors - the third this month - to avert default, in this case by extending debt repayments to onshore creditors by three years.

Add to that an underperformance in tech shares, after the surprise revelation that Alibaba's outgoing CEO is also stepping away from the cloud business, and Hong Kong's Hang Seng index HSI ended up leading declines in the region, with a slide of about 1.5%.

Mainland blue chips 3399300 were firmer, though, buoyed perhaps by an easing of deflationary pressures in data released on Saturday.

Meanwhile, China's central bank yanked the yuan off a 16-year low by setting the strongest official midpoint fixing - as compared with market expectations - on record.

That coincided with the yen's bounce from last week's 10-month low after Bank of Japan Governor Kazuo Ueda signalled in an interview with the Yomiuri newspaper that the negative interest rate policy could be on the way out as soon as the year-end.

Despite Europe's slow start, it's a busy week, and the focus is mainly on monetary policy.

The ECB sets rates on Thursday, and bets for a hike have been ramping up amid some hawkish comments from officials, along with the rally in crude oil prices BRN1!.

Those policymakers are now in a blackout period, but not so the Bank of England, which makes its announcement next week on Sept. 21, a day after the Fed.

BOE chief economist Huw Pill is on speaking duty today, setting the scene for British jobs data on Tuesday and GDP the day after.

As for the Fed, the message from officials has been clear of late: They are not itching to raise rates this month, but neither are they ready to declare victory over inflation.

That makes U.S. CPI data due Wednesday the key data point to watch this week.

Key developments that could influence markets on Monday:

-Sweden house price index (Sept)

-Italy industrial production (July)

-U.S. 3-year note auction

(Kevin Buckland)

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