French Election Round 1: How Did European Equities Respond?

It has been difficult to turn on any investment media in 2017 without hearing at least something about European elections—particularly the French presidential election. Going into April 23, the first round of the process, we as an industry waited with baited breath, given the apparent tightening of polls.

Few (If Any) Were Allocating to European Equities Prior to This Event

In speaking to industry professionals over the course of the first four months of 2017, a common conversational framework tended to ensue:

Broad Agreement That U.S. Equities¹ Were Either Close to Fairly Valued or Even Expensive: The only logical argument we tended to hear supporting U.S. valuations was that interest rates² remain near historic lows, and therefore bonds are still quite expensive compared to stocks.

Awakening to Emerging Market Equities³, which Have Been Performing Strongly for More Than 12 Months: We remember trying to discuss emerging market equities at the end of 2015 (largely to no avail), but now that the benchmark index is more than 25%⁴ above those levels, there seems to be greater interest.

Disconnected Reality of European Equity Performance vs. European Equity Sentiment: Growth and inflation dynamics in Europe, not to mention corporate earnings, were far from a disaster scenario. While the S&P 500 Index and the Russell 2000 Index delivered 6.07% and 2.47%, respectively, European large caps and small caps⁵ outperformed.

Home country bias—even in the face of many saying outwardly that they didn’t love the current levels of the U.S. equity markets—remained the majority action, we think predominantly due to the feeling of being “burned” by 1) the Brexit referendum surprise and 2) Donald Trump’s surprise election victory.

The European Equity Opportunity Became a Coiled Spring

Europe is a major world market—if one includes the UK and the eurozone, the exposure in the MSCI ACWI is approximately 17%.⁶ With the election concerns, a divide occurred among sentiment, fundamentals, and ultimate allocations. Any catalysts for shifts in sentiment (such as more positive election results than expected) could therefore lead to significant rebalancing or reallocation back into the region.