European Cyclicals Surge 30%, Need Strong Data Amid DAX 12% Earnings Decline

Key Takeaway

• European cyclical stocks surged 30% this year but are now showing signs of weakness; JPMorgan recommends rotating into defensive sectors.
• German stocks remain resilient with positive earnings drivers like Commerzbank and Infineon, despite a 12% decline in DAX 1Q earnings.
• US futures steady ahead of Nvidia's earnings; bond market sees a flight to safety with 10-year gilts outperforming US Treasuries and German bunds.

European Cyclicals Performance

European cyclical stocks have shown significant outperformance this year, driven by economic optimism and earnings delivery. Since the end of October, cyclicals have surged by about 30%, more than double the returns of defensive stocks. However, recent data indicates that this momentum may be waning. Manufacturing PMIs have stalled over the past couple of months, and cyclicals have started to show signs of weakness relative to defensives. According to JPMorgan strategists led by Mislav Matejka, the median cyclical versus defensives EPS growth for the Stoxx 600 is at -15%, the worst since the second quarter of 2020. The strategists have recommended a rotation into defensive sectors, particularly utilities and real estate, to mitigate risks.

German Stocks Outlook

German stocks have demonstrated resilience, supported by a relatively robust first-quarter earnings season. Despite a 12% year-over-year decline in DAX 1Q earnings, primarily due to drops in industrials and autos, there have been notable positive earnings drivers. Financials, led by Commerzbank, have upgraded their lending income outlook, while chipmaker Infineon has seen positive developments in China and Europe’s EV markets. Siemens Energy has also rallied on a turnaround in its wind unit and job cuts. The improving economic outlook, potential ECB interest rate cuts, and recovery in the Chinese economy are expected to further boost German stocks. Deutsche Bank forecasts double-digit profit growth for the DAX in the second half of 2024, with a 5% earnings growth for both the DAX and Stoxx 600 in 2024.

European Equities Decline

European equities experienced a downturn, led by banks and utilities, which dragged the Stoxx 600 lower. The banking sector was notably impacted by developments at JPMorgan's investor day, where CEO Jamie Dimon indicated that the bank would not engage in substantial stock buybacks at current prices. This led to a 4.5% drop in JPMorgan shares, making it the worst performer among S&P 500 stocks. Additionally, investors have pulled €10 billion from European property funds over the past year, reflecting concerns about market stability. This cautious sentiment has contributed to the overall decline in European equities.

Commodities and Currencies

Commodities saw mixed performance, with gold and copper trading lower after recent highs. Spot gold fell by approximately $7, trading near $2,418 per ounce. The Bloomberg Commodity Spot Index reached its highest level since January 2023, indicating a consolidation phase for commodities. Base metals showed varied movements, with LME nickel falling by 0.4% while LME aluminum gained 1.5%. In the currency markets, the Bloomberg Dollar Spot Index edged down, with the Norwegian Krone (NOK) and Swedish Krona (SEK) outperforming. Brent and WTI crude oil prices tested support from short-term moving averages as they declined, reflecting a cautious outlook in the energy sector.

US Market Focus

US futures remained steady, with significant attention on Nvidia's upcoming earnings report scheduled for Wednesday. Nvidia's performance is highly anticipated, given its influential role in the technology sector and its potential impact on market sentiment. Bonds saw a rise, with 10-year gilts outperforming comparable US Treasuries and German bunds. This movement in the bond market suggests a flight to safety among investors, possibly due to uncertainties in the equity markets and broader economic concerns.

Street Views

• Mislav Matejka, JPMorgan (Bearish on European cyclicals):

  "Median cyclical versus defensives EPS growth for the Stoxx 600 is at -15%, the worst print since the second quarter of 2020."