After Europe stock surge, can earnings follow?

Europe's companies show signs of recovery
Europe's companies show signs of recovery   

The outlook for European corporate earnings is finally becoming much brighter thanks to a weak euro, a drop in oil prices and monetary stimulus, analysts say.

Growing optimism has helped boost the pan-European Euro Stoxx 600 index rise some 30 percent from a low hit in mid-October, raising hopes that earnings growth will play catch-up after lacklustre performance thanks to the global financial and European economic crises.

"We don't see the European market as overvalued at this point in time. But I think it's a fair comment to say we do need earnings to come through for the bull market to continue," Robert Parkes, director for equity strategy at HSBC Bank in London, told CNBC.

"We think that will happen and we have quite a punchy forecast for earnings growth in continental Europe this year of 25 percent, which is about double consensus expectations," he said.

Jason Alden | Bloomberg | Getty Images

According to Parkes, over the past four years consensus estimates for European earnings start the year at 10-15 percent while earnings end each year either flat or in negative territory.

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Strategists cited three reasons why earnings should turn around this year. There's hefty monetary stimulus from the European Central Bank to help revive economic growth that kicks off Monday. In addition is the weak euro which gives the region's exporters a competitive edge and the fall in oil prices, which puts more money back into the pockets of consumers and businesses.

Over the past six months, the euro has shed almost 16 percent of its value against the dollar while a barrel of Brent crude oil has slumped roughly 40 percent to just under $60.

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"There is a possibility that corporate earnings in Europe this year could do 20 to 30 percent at a time when most expectations for earnings growth are at 5,6,7,8 percent if companies run themselves properly," Ewen Cameron Watt, chief investment strategist at BlackRock Investment Institute, told CNBC on Monday.

"The euro does help because 50, 60 percent of listed Europe company sales are outside Europe," he added.

Earnings watch

Analysts say the latest earnings from Europe across the euro zone paint a brighter picture for companies.

According to data from Thomson Reuters, the fourth quarter is shaping up to be Europe's best earnings season since mid-2011. Reuters reported last Thursday that about 80 percent of Stoxx Europe 600 companies have reported results so far, unveiling a 22 percent gain in quarterly profits.

"The arithmetic is compelling. Sales are coming in generally above expectations, profits are a bit above expectations and there is a tailwind from oil and the euro, so you could argue why are expectations for earnings not higher?," said BlackRock's Cameron Watt.

Jean Medecin, a Portfolio Advisor at Carmignac Gestion, said the best strategy was to invest in the broad market instead of picking specific sectors or companies.

"What is interesting in Germany is that you have economic momentum that is strong; you've got QE (quantitative easing) which will support inflation and Bunds that are yielding low. In Germany, one of the most obvious trades is be short Bunds," he said, talking about the outlook for European stocks.

Parkes at HSBC added that while some indicators such as a ratio of earnings revisions shows that there are still slightly more earnings downgrades then upgrades, this was slowly turning around.

"The trend is clearly positive and it is only a matter of time before we see consensus earnings being revised upwards and not downwards," he said.

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