Investors trying to bounce back from a terrible year for stocks should consider Europe. They could be rewarded with an extra boost from currency swings this year.
In 2022, the dollar climbed to its highest level in decades against both the euro and the pound, as the Federal Reserve unleashed an aggressive campaign of interest-rate increases. European central banks moved more slowly to raise rates, driving up the dollar and boosting the returns of greenback-denominated assets.
The trend started to reverse in the final months of the year. The euro has strengthened to around $1.08 from below parity with the dollar. The U.K. pound has recovered to above $1.20 from as low as $1.03.
For U.S. investors, a weakening dollar automatically boosts any increase in the share prices of foreign stocks. Over the past three months, the U.K.’s
index has risen about 8%, and the pound has gained some 6%. Translated into dollars, that’s a return of about 14%. The formula is similar for the euro—Germany’s
has climbed 13% in the past three months, and the euro is up 7%. In dollar terms, that’s a 20% gain.
Foreign currencies might have further to run. Chris Turner, ING’s global head of markets, says the euro could climb to $1.15 by the end of 2023, and the pound could go as high as $1.30. That would juice any stock gains by another 6% when converted into bucks. “Normally, equity investors think returns in equities far outweigh any ups and downs in currency markets,” says Turner. “But currencies can really add and detract from your overall return.”
One reason European currencies might keep climbing is that interest-rate increases by central banks there are still catching up to the Fed’s. The Fed slowed to a quarter-point hike in February after a series of half- and three-quarter-point boosts. Both the Bank of England and the European Central Bank raised rates by a half-point in February. The ECB has promised another bigger-than-usual move in March.
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“The BoE and ECB are expected to hike even more than the Fed this year, and that is why the dollar is expected to weaken,” says Wei Li, chief global investment strategist at BlackRock.
BlackRock highlights three sectors in the Old World that should do well: financials, energy, and healthcare.
Among financials, lenders such as Germany’s
(ticker: CRZBY) should benefit from higher rates. On FactSet, the bank has eight Buy ratings and six Holds from analysts, with an average price target of €12.29. Commerzbank recently was trading at €10.
Energy should continue to be highly profitable this year, after a record-breaking 2022. Analysts’ average stock-price targets for
(BP) and
(SHEL), the sector’s biggest European members, are 13% and 22% above their recent quotes, respectively, according to FactSet. Based on their current average price targets, Spain’s
(REPYY) and Italy’s
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(E) each have an implied return above 20%.
In healthcare, BlackRock favors companies such as the U.K.’s
(AZN), given Europe’s aging population. The pharmaceutical giant’s shares boast an average target price from analysts about 20% higher than its recent quote.
Of course, there’s always a chance that the dollar doesn’t weaken in 2023.
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“The most pressing risk is that inflation stays really sticky,” said ING’s Turner. That would mean the Fed would keep rates higher for longer, which would keep the greenback stronger than it otherwise would be. There’s also the danger that a geopolitical event boosts the buck again. An expansion of Russia’s war in Ukraine, or another global disease outbreak that disrupts economic activity could do that.
But for now, European central banks are following the script on interest rates, pushing their currencies up against the dollar. That should make foreign companies’ stocks more attractive to investors in the U.S.
Write to Brian Swint at brian.swint@barrons.com
