Earnings boost to help German shares overtake peripheral peers

Reuters - UK Focus

* German stocks set to see earnings growth

* Top (Taiwan OTC: 8419.TWO - news) analysts see continued disappointment in periphery

* DAX better geared to benefit from economic growth

* Light (Other OTC: LGSXY - news) fund positioning in the DAX leaves room for pick-up

By Alistair Smout

LONDON, April 23 (Reuters) - German shares may overtaketheir Italian and Spanish peers as Europe's star performers thisquarter, boosted by better corporate earnings at a time whenexpensive valuations are making investors more selective.

German companies are seen beating consensus predictions withtheir first quarter earnings while numbers from firms in Italyand Spain are set to fall short of expectations, according toestimates from the most accurate analysts aggregated by ThomsonReuters StarMine.

This sets the scene for German shares to take the lead afterlagging Italian and Spanish indexes since 2012 during a rallythat boosted stocks in the euro zone's most vulnerable economiesahead of perceived "safe havens".

Wednesday's expectation-beating PMI survey data was thelatest indication that economic momentum in the euro zone'sbiggest economy remains strong, yet Germany's blue chip index has been a notable underperformer so far this year.

The growing economy has left German stocks well placed tobeat earnings expectations in a year during which investors arelooking for profits to rebound to support elevated prices.Valuations across Europe are at their highest since 2005.

At the same time, the rally in the periphery has left Germanstocks relatively under-owned by funds, despite the country'sheavy weighting in stocks that are sensitive to the economiccycle and so should benefit most from the recovery.

"Germany has got the better macro-momentum right now thanthe periphery, and it's also got the situation where you've gotmore cyclical exposure within the stock market," said NickNelson, European equity strategist at UBS (Xetra: UB0BL6 - news) .

"Broadly the message from us is that it's now all aboutearnings growth being delivered to the market, and we'repreferring the more cyclical parts of the market."

Half of the DAX is composed of growth-sensitive or"cyclical" stocks such as industrial, consumer discretionary andfinancial companies, while defensive shares such telecoms andutilities are among the index's smallest weightings.

Industrial blue-chip companies in Germany are set to beatconsensus forecasts by 11.7 percent this quarter, according toanalysts with the best track record for accuracy, who saySiemens will be a stand-out. Their predictions forthe stock are ahead of average estimates by 14.6 percent.

These analysts estimate that earnings for the DAX grew 8.6percent year-on-year in the first quarter, 0.2 percent aboveconsensus estimates, Thomson Reuters StarMine data showed.

That compares favourably with the DJ STOXX Europe 600, where top analysts see profits missing consensus by0.6 percent, and with Italian and Spanish stocks, where earningsare set to miss forecasts by 2.3 percent and 1.1 percentrespectively.


Peripheral euro zone banks are seen missing consensusforecasts by the biggest margin, as money supply data remainsweak despite a double-digit rally over the last year.

Profits at Italian banks will lag consensus forecasts by asmuch as 5.7 percent, the top-rated analysts said.

"The periphery rally has gone too far, given the earningsreality we're about to be faced with," Shore Capital equitystrategist Gerard Lane said. "The economic outlook has not gotany better, because lending in the periphery is still falling."

Lending by Spanish banks fell again in February, the Bank ofSpain said on Monday, while the number of non-performing loansin Italy and Spain remains stubbornly high.

Despite this, Italy's bank-heavy FTSE MIB haspushed on 15 percent this year, compared to a flat year for theDAX, with peripheral stocks supported by a drop in sovereignbond yields to multi-year lows.

The sharp contraction in yields means there may be littleroom for further gains based on moves in the debt market, withUBS's Nelson saying the focus was now on earnings delivery.

The popularity of peripheral stocks has fuelled fund flowsinto Europe, with the latest Bank of America (TLO: BAC.TI - news) /Merrill Lynch fundmanager survey showing Europe retained its position as the mostpreferred region for the eighth month running.

Funds invested in euro zone equities have seen a net $4.7billion of inflows so far in 2014, while Spanish equity fundshave attracted $3.2 billion and Italian equity funds $1.8billion, Lipper data shows. German funds have seen outflows of$9.9 billion, however, leaving scope for a rebound there.

"Germany looks promising after a sharp drop in holdingsrecently," strategists at HSBC write in a note. "The extent ofthis selling is unusual and makes Germany an interestingcontrarian idea."

(Graphic by Vincent Flasseur; Editing by Francesco Canepa andCatherine Evans)

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