Emma Wall: Hello and welcome to the Morningstar series 'Why Should I Invest with You?' I'm Emma Wall, and I am joined today by Dean Tenerelli of T. Rowe Price.
Hi, Dean.
Dean Tenerelli: Good morning Emma.
Wall: So you run a European equities fund and we're going to talk about China. It may not seem connected, but the Eurozone import saw lot of growth from China in one way or another and we've just had growth figures from Germany saying that they achieved 0.4% growth, GDP growth which doesn’t like much. And it does beg to question is there enough growth in the bag that China won't knock the Eurozone off course.
Tenerelli: It's a very good question and China is very important to the world, to Europe, to the U.S. and everywhere, particularly to Europe. Europe is a big trading partner with China and particularly Germany is a big trading partner with China. So, and we are very concerned about China. China clearly is decelerating. Recent GDP prints have been lackluster other indicators are coming out even weaker.
So there is a good chance that we're not even reaching the GDP prints that China is showing. And clearly their policy action is showing you that also the Chinese government is concerned. The recent move to allow the currency to depreciate is yet another move to, one liberalize the currency, but also to help to bolster exports which have been weak.
So if – and we've been saying this for the last year our biggest worry right now in the world is China, it is not Europe. I do feel though that the earnings recovery in Europe is well underpinned I'll give you some figures. Recent earnings season in Europe has been the best earnings season that we've had since 2010. Net beats – misses by 15% which is the highest number we've seen again since 2010. So the – and most of that came from the European portion of earnings within European companies, and GDP growth will accelerate next year, and you have countries like Ireland which are almost hitting 4% probably next year you have Spain hitting probably 3% next year. So you have very good GDP recovery.
The other thing to remember is that Europe is still well below the peak GDP of 2007 and the earnings are about 25% still depressed from 2007, basically we haven’t recovered yet. So even within Europe we feel this recovery, now can China drag this down, it could. It could make it slower, but I think as far as recovery goes it's well underpinned and we are moving in the right direction. Will it be slightly slower? It could be, it could be.
Wall: That’s the impact on the economy, but of course you are a stock picker. So what is the impact on stocks if at all, presumably it's those companies that do have revenues in the Asia region in China that will be most affected?
Tenerelli: They are, and there are certain companies or sectors which have more exposure than others and so the key sectors which would be most affected would be industrials, obviously or luxury goods, consumer staples companies, but many companies have a portion of their earnings coming from China and that typically is 5% to 10%, but in some companies it could be 30%.
As the dilemma – we are not in dilemma, but it’s a dilemma or an opportunity which is those stocks which have sold off because of China slowing where valuation proves interesting and earnings momentum isn’t great and we're still seeing downgrades are they worth buying yet or not. And in some cases I feel that they are.
We've taken positions in Swatch Group for example so the luxury sector which has been hit we've kind of bought into that slowly, but Swatch is very cheap it works very well in our DCF and momentum isn’t great yet, but buying at this price and holding it I think you are going to make money.
Another example would be a fantastic company called Durr which is an industry which is exposed to China and to the auto sector and auto sector is one of the sector which has been hit by the Chinese slowdown, because it's been a great source of growth for the European auto companies. And we’ve recently taken a position in Durr they make robots to paint cars basically and they do a bunch of other things, but that’s half of what they do.
And the stock has been hit and it's a fantastic business, 30% return on capital employed, they recently made an acquisition, they are going to increase the returns up to 35%. So there is great underlying micro-story at the company that’s been dragged down by the China worry.
So China is providing what we think are opportunities, but again you can't jump fully in without really keeping an eye on what's going on with the macro in China, because it's not without risk I would say.
Wall: European stocks are popular though, despite the fact that we've had rumblings from Greece. What feels like forever more if you just look at where U.S. investors are putting their money, we've recently had figures from the second quarter of this year. It seems that U.S. investors are not actually favouring homegrown stocks despite the fact that it's had such a significant rally in the U.S.
They are looking to Europe and that’s where they are putting their money because they think that there are better opportunities to be had. I suppose the flip of that is if you are a contrarian investor you would want to go with the crowd or have U.S. investors got it right?
Tenerelli: I think they have got it right. Especially if you are looking through a U.S. lens, dollar is very strong now, the euro is very weak now, two Europe is still recovering it’s a lot behind the U.S. as far as earnings recovery goes and as I mentioned we are still well below peak, the U.S. is about 30% above the 2007 EPS level. So clearly the U.S. has recovered, has done well. The market is trading much more expensively on a cyclically adjusted basis, Europe is much cheaper it's well below it's long term average and the currency is undervalued. So I think Europe continues to be a great region of opportunity in the world.
Wall: Dean, thank you very much.
Tenerelli: Thank you.
Wall: This is Emma Wall for Morningstar. Thank you for watching.
