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Why Inflation Is Not Helping European Stocks

Tuesday, April 11, 2017 7:07
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(Before It's News)

The Euro zone CPI data continues to show the rising trend we commented here (read). In January inflation rose by 1.8% year-on-year, the highest reading since February 2013.

However, while inflation expectations rise, markets remain stale. The stock market is not showing any boost from this reflation trend. Why?

Inflation is up mainly due to energy’s positive contribution (8.1% year-on-year in January, from 2.6% in December) and food prices (1.8% year-on-year). None of those two components are positive for the economy, consumers or companies, as Europe is mainly an importer of energy and commodities.

Core inflation remains stale at 0.9% year-on-year despite a massive stimulus of 80 billion euro a month from the European Central Bank, new credit growing and improved PMIs. Europe’s massive overcapacity continues to burden the economy, and no central bank can disguise that.

There has been some acceleration in non-energy industrial goods prices (to 0.5%) but some softening in the services component (to 1.2% from 1.3%), which shows that the policy of creating inflation by decree is not working.

The Eurostoxx 600 Index is comprised mostly of banks, utilities, telecom companies and construction-industrial conglomerates. None of these benefit from rising CPI due to external factors. Even integrated oil companies in Europe benefit more from refining margins than oil prices. Banks still struggle from 900 billion euro of Non-Performing loans and poor Net Income margins, and although earnings season is shaping to be better than expected, the risk of stagflation as well as political uncertainty in the face of French, Dutch and German elections weighs on a stock market where companies in the previously mentioned sectors are very exposed to political turmoil.

The question is, if after such a massive quantitative easing program in Europe, core inflation remains so weak, the risk of a burst in prices can arrive at the same time as GDP growth remains subdued. With 2% inflation and lower nominal GDP growth, Europe could risk moving to stagflation.

So far, earnings are better than expected and guidance is more robust. Once the uncertainty of elections passes,  we could start to see some relief in European stocks. In the meantime, energy prices are cooling down, which could help reduce the import factors of inflation. But, until then, rising inflation due to commodities has no positive impact on equities.


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