Rob Burnett, head of European equities, Neptune
The European Central Bank (ECB) delivered a strong package in its latest policy announcement that managed to find the right balance between supporting the economy and not endangering the banking system.
The EU banking system is very sensitive to negative rates, and if the ECB were to have cut rates by too much, it could have created systemic stress. The market was expecting cuts of around 12-14bps and so the 10bp cut in the deposit rate was slightly easier on the banks than anticipated. More importantly, all the other measures announced were supportive of banking profitability.
The new TLTRO scheme is helpful. Banks will be able to borrow money from the ECB at either 0% or, if they can show they are growing their lending book, they will be able to borrow at the deposit rate, now at -40bps.
ECB President Mario Draghi has said that this funding could be used by banks to substitute for upcoming debt maturities, so this should cause a decent firming in bank debt markets. The new programme of purchasing investment grade corporate bonds is also likely to cause a reduction in bank funding costs, as tighter spreads in non-financials bonds spill over into bank credit.
The most important positive signal of the day was the indication by Draghi that he does not anticipate cutting interest rates again. The largest driver of volatility in early 2016 was the indication by central banks that they were going to cut rates deeper and deeper into negative territory.
We believe this would have created a systemic crisis and investors rightly became worried. By signalling that the ECB does not intend to cut again, investors can now consider that we are at a floor margin for banks and that systemic crisis will likely be averted. Investors can now price the sector accordingly.
In recent months, the ECB has felt the need to modify their message in the days after monetary policy announcements. This is often counter-productive. There have been so many policy announcements recently that we believe it is now time for the ECB to be quiet for an extended period. They have done enough and the market will benefit from a long period of monetary policy stability.
European banks have responded positively to the news, and we see further upside from here. The Neptune European Opportunities Fund remains overweight banks.
There are green shoots appearing for global growth. Many emerging market currencies are strengthening. Commodity prices are stabilising. The US manufacturing economy is showing early signs of recovery.
The Neptune European Opportunities Fund has positions across a wide variety of industries with a strong value bias. Whilst we continue to be overweight in telecommunications and IT, we are also seeing interesting opportunities in industrials, materials and energy.
We are focusing on paying low prices for our investments, looking for high free cash flow yields and high dividends. Value stocks are exceptionally cheap today compared to long duration growth stocks. In recent weeks, value stocks have been outperforming. We believe the alpha generation from value will continue.
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