European earnings forecasts still founder
For the fourth year in a row, consensus expectations for European companies’ earnings growth at the beginning of the year have proved wildly over-optimistic. In the last four weeks, consensus earnings forecasts for Peugeot, Rémy Cointreau and Air France-KLM have all been downgraded, by 40 per cent, 11 per cent and 8 per cent, respectively, according to Bloomberg. The downgrades shed light not just on the inaccuracy of analysts’ forecasts but also on the pressures that are continuing to affect European companies’ profitability. "2014 has started in an eerily similar fashion to the last three: analysts start off the year with 8 to 15 per cent earnings per share expectations, and it ends up at -6 per cent to 1 per cent. Not great," said Nick Nelson, European equity strategist at UBS. Thomson Reuters’ IBES consensus forecasts for European earnings growth in 2014 have moved from 13 per cent at the start of the year to 8 per cent. This mirrors trends in the previous three years, where analysts also reduced their performance expectations sharply over the calendar year. "Earnings revisions for 2014 have been consistently negative," wrote Goldman Sachs’ equity strategy team in a report this week. Despite stock markets having risen significantly – the FTSE Eurofirst is up 11 per cent over the past year – there is still little sign of improving macroeconomic fundamentals in Europe feeding through to companies’ bottom lines. "One of the big concerns investors have is that the market has gone up a lot and yet we are still seeing earnings downgrades," said Graham Secker, head of pan-European equity strategy at Morgan Stanley. A strong euro, wobbles in the emerging markets from Turkey to South Africa, a US swathed in snow, not to mention rising geopolitical tension between Russia and the west over Ukraine all provided reasons for gloom during the first quarter of 2014. But investors should nevertheless take with a pinch of salt the number of companies reporting that they have "beaten" expectations, given that these have fallen so sharply over the quarter. Even so, just over half the 101 companies of the 374 Stoxx600 European companies that have reported so far on their first quarter performance have disappointed consensus earnings expectations, according to Bloomberg. The last four years are not the only examples of analysts being over-bullish. "Going back 25 years, analysts have been too optimistic about earnings growth in 20 years out of the 25 and by 8 percentage points on average over the whole period," said Mr Nelson. Mr Secker argued the demographics of the analyst community provided some explanation for the trend over recent years. "If you are an analyst working at an investment bank in Europe, if you’ve been doing this job for three years or less, you may have never seen an upgrade," he said. "Some of the junior analysts, indeed all analysts, may be underestimating operational leverage on the upside."