In recent months, we have warmed up to Europe as a destination for equity investments in global portfolios. Through July, Europe had done a relatively good job containing the first wave of COVID-19, and cases were plummeting to multi-month lows. Meanwhile, the United States was struggling with its second wave—or perhaps the second phase of the first wave—and was seeing cases surge in July despite the warm summer weather.
As shown in the LPL Chart of the Day, the situation has completely reversed in recent months. Cases in Western Europe are rocketing higher, and several countries are putting restrictions back in place. In the Spanish capital of Madrid, many neighborhoods have been placed back into semi-lockdowns, where residents are able to leave only for necessities. United Kingdom Prime Minister Boris Johnson encouraged the British public to work from home, put fresh restrictions on restaurants and bars, and called the situation “perilous.” Meanwhile, France has imposed new restrictions on bars and public gatherings in an effort to curb new case growth.
“After a cautious stance on Europe for the past several years, LPL Research started warming up to Europe this summer,” said LPL Financial Equity Strategist Jeffrey Buchbinder. “However, the latest wave of COVID-19 in Western Europe has hampered its economic recovery, evident in Wednesday’s softer than expected services report, weakening the case for adding allocations to European stocks.”
The weakness in Purchasing Managers’ Index (PMI) data has been particularly pronounced in the services sector—suggesting that consumer behavior is reacting to the rise in cases—while manufacturing survey data has actually beat consensus expectations, according to Factset. This divergence may have spillover effects that slow economic momentum in the fourth quarter, tapering the rebound we saw in the initial stages of the recovery.
In the United States, cases have fallen—until very recently—while hospitalizations and death rates have continued to trend lower, prompting many states to loosen restrictions. The will of the American people to get back to some semblance of normal life remains strong. Overall, the United States appears to be in a better place right now than Europe in terms of containing the virus. That additional drag on the economic recovery across Europe, including the UK, reduces the attractiveness of European equities relative to their US counterparts, despite attractive valuations and the potential for further weakness of the US dollar.
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