European shares rally as Draghi hints at ECB action
07/26/2012| 03:40pm US/Eastern
European shares rallied on Thursday as bullish macro sentiment outshone a barrage of mixed corporate earnings, after the European Central Bank president sent a strong signal that the ECB will act to protect the euro zone from collapse.
The FTSEurofirst 300 rose 24.71 points, or 2.4 percent to 1,042.60, paring losses of more than 4 percent over the previous four trading days.
ECB chief Mario Draghi's comments fueled a risk-on rally and drove down bond yields in Italy and Spain as hopes rose that the ECB would kick-start its bond buying program and potentially provide more cheap stimulus to boost flagging growth.
"(There's) lots of excitement about Draghi's remarks," said Chris Scicluna, an economist at Daiwa Capital Markets.
"This time around, new bond purchases might be conducted to buy time until a new LTRO (long term refinancing operation) is conducted, and if and when a full-blown ESM (European Stability Mechanism) support package for Spain can be put together," he said.
When fresh LTRO was announced in December 2011 the FTSEurofirst rallied nearly 16 percent to its March peak.
Investors were quick to jump on Draghi's comments and bought beaten down cyclical stocks such as banks, which are deeply exposed to the euro zone crisis and miners, which have been hit by global growth worries.
"After a torrid week equities can have a run on this news. And this should challenge the renewed uber-defensive, high quality preference that appears to be immune to any valuation constraint," Ian Richards, head of equity strategy at Exane BNP Paribas said.
"Take the 'disaster premium' lower and both the absolute and relative valuations in the European equity market will start to normalize," he said.
The Euro STOXX 50 -- the euro zone blue chip index -- trades on a forward price-to-earnings of just 8.7 times, well below historic averages.
Muted trading volumes continue to reflect broader lingering macro worries and strategists at HSBC said international investors had "run for the hills" while risk appetite has only ever been lower in late 2008 and early 2009, the height of the financial crisis.
Investors remain acutely aware of the threat the ongoing European debt crisis with Euro zone growth expected to contract by 0.4 percent in 2012, according to the most recent Thomson Reuters poll.
As a result of those fears the cost of insuring against the Euro STOXX 50 falling to 2,050 points, or roughly 5 percent below its current level, by the end of August rose more than fivefold in the four sessions to Thursday, Eurex data showed.
Investors betting over the potential for another market fall could well be correct if corporate continue to post mixed results against the backdrop of weak global growth, despite earnings estimates being reduced ahead of the earnings season.
Earnings growth estimates have been cut by around 6 percent since the start of the year for European companies, compared with 1.7 percent for the S&P 500 companies.
Technology, financials, utilities and telecoms have seen the biggest reductions, according to Thomson Reuters data.
Heavyweight UK energy stocks were the biggest drag on sentiment after second-quarter earnings from both Royal Dutch Shell and BG Group lagged expectations.
Royal Dutch B and A shares were both down more than 2 percent, the top two FTSE 100 fallers, while BG Group managed to turn around earlier losses and rally 2.1 percent after Draghi's comments.
The market-implied EPS CAGR showed there was less negativity baked into Shell's share price ahead of the release of their statement when compared with sector peers with a 10-year figure of minus 3.8 percent a year, compared with BP's minus 8.7 percent and Total's minus 5.5 percent.
Elsewhere, Germany's Volkswagen shed 4 percent as it said it suffered a slowdown in underlying profit growth in the second quarter.
German truck maker MAN slipped 5.7 percent as analysts started cutting estimates on the firm the day after it lowered its targeted profit margin as Europe's deepening debt crisis and the slowing world economy erode demand for commercial vehicles.
Investors continued to reward those companies whose earnings did manage to impress with Europe's largest computer consultancy Capgemini up 7.1 percent after the group posted a 13 percent rise in first-half profit.
London-listed engine maker Rolls Royce, broadcaster ITV and consumer staple Unilever also rallied as much as 6.7 percent after their respective updates.
Before Thursday's bumper crop of company results, about a quarter of companies due to report had done so. 42 percent of those companies missed analysts' watered down expectations with a reported quarterly year-on-year earnings contraction of 6 percent, according to Thomson Reuters Starmine data.
(Written by David Brett; editing by Ron Askew)
By David Brett