- The fortunes of Spain and Germany have been very different over the past few years
- Spanish strengths: energy/economic diversification, tourism, public policies…
- German shortcomings: dependence on manufacturing and Russian gas, ageing demography…
Since the breakout of the war between Russia and Ukraine, the Spanish economy has proved remarkably resilient, outperforming its German peer – despite the latter being generally considered the engine of Europe. A dynamic that was also evident at the recent Euro 2024 tournament, where the Spanish team claimed the overall trophy after eliminating host nation Germany in the quarterfinals.
The degree of energy dependence is a major factor behind these different trajectories. Germany, a heavy user of Russian gas, has borne the brunt of sanctions and energy supply disruptions. This led to increased production costs and high inflation, approaching 6% in 2023. Spain, on the other hand, was less dependent on Russian gas and boasts a better mix of energy sources, particularly renewable ones. Inflation thus remained more moderate, at 3.5%. Diversifying its play and adapting to opponent strategies is indeed also what enabled La Roja to win crucial Euro 2024 matches.
The tourism sector, key to the Spanish economy, rebounded strongly after the pandemic. Millions of visitors flocked to the country in 2023, not only boosting GDP growth, but also creating jobs and supporting small local businesses. Germany, although also a tourist destination, is clearly no match for Spain in this regard. To draw another football parallel, the fact that the Spanish team was able to capitalise on its strengths, in this case a talented attack and a solid defence, contributed greatly to its Euro 2024 champion title.
It is also worth noting that where Germany faces major structural challenges, notably an ageing population and a dependence on manufacturing, Spain has been able to carry out structural reforms to improve the competitiveness and flexibility of its workforce. Encouraging innovation, supporting start-ups, strengthening education and vocational training: these are just some of the measures designed to help the country better adapt to the new post-COVID economic realities. Just as the Spanish football team was able to reinvent itself and integrate young talents (Lamine Yamal and Nico Williams spring to mind).
Beyond tourism, Spain has invested heavily in sectors such as information technology, renewable energies and financial services during recent years. Such diversification has helped is economy better withstand external shocks. Germany, on the other hand, remains heavily dependent on manufacturing, which has been hard hit by supply chain disruptions and fluctuations in global demand. Similarly, the Mannschaft, despite its talent and prestigious history, has shown signs of vulnerability when facing more diversified rivals.
Lastly, fiscal and monetary policies have also played a crucial role in the Spanish economic resilience. Authorities implemented support measures for businesses and households, including subsidies, tax cuts and employment support programmes – which served to stabilise the economy and sustain domestic demand. Similar measures were also deployed in Germany, but have been less effective, because of the above-mentioned energy and structural factors. In the same way as injuries and tactical errors hampered the German coach’s strategic decisions during the Euro 2024.
In short, Germany’s industrial economy, once a model of success, is struggling to address the challenges of today’s world. Spain, with its diversified and resilient services model, is meanwhile an example of successful adaptation to these new post-COVID economic realities. Let us wager that German policymakers, like the Mannschaft members, might have to rethink their strategies and bring in some new talent to move back up in the league. The Spanish team, meanwhile, should continue to shine on the international stage.
Written by François Botta, Senior Portfolio Manager
Do the right thing!
- Fed’s easing started with a bang, but beware of the challenging route ahead
- The (growth) show goes on, providing a key support to equity markets
- Gold should prove a better safe haven, and continues to fare better, than government bonds
As markets were guesstimating, the Fed delivered a 50bps cut as a starting point of its easing cycle. This dovish decision was motivated by a recent deterioration in labor market, while inflation has also declined more rapidly than forecasted by the Fed members last June. As a result, the Fed sees now risks to employment & inflation goals roughly in balance, while still expecting resilient economic growth (Fed’s GDP growth projections remained unchanged). By opting for a preventive recalibration of its monetary policy rather than a cure later (in case of recession), the odds of our soft-landing scenario have likely improved.
On this matter, it’s worth highlighting two unusual points compared to previous easing cycle. First, this recalibration is consistent with Fed’s main concern swinging from inflation to labor market: the Fed can let go a little on one of these objectives and focus a little more on the other. As a result, and contrary to previous easing cycle: rising unemployment isn’t synonym of recession. At some point it could be, but not at this (early) stage. The second point, which is a corollary of the previous one, is that the Fed is cutting from a position of strength in the economy, not weakness, with still some sticky inflation in services… In this context, history is no longer a guide. Not only the classic trading playbook for when Fed is cutting rates (such as reduce equity exposure, buy defensive stocks, increase bonds, especially sovereign duration and decrease credit, among some basics) may not work, but the Fed’s easing pathway may be more challenging and thus bumpier than usual.
With recession fears dialing down, positioning & sentiment indicators stabilizing to more neutral level, and normal liquidity conditions restored after the summer break, global equity markets have resumed their advance, reaching new year-high lately on the back of solid EPS growth anticipated for this year and next. As far as valuations are concerned, it’s still not cheap but that’s not new neither: today’s elevated equity index valuation multiples conceal a much more complex reality with segments such as Europe & Small-caps still offering attractive value beyond magnificent US titans. Moreover, supportive macro & micro fundamentals combined with lower rates should warrant a re-rating of these segments.
As a result, we remain constructive on equities but still expects bouts of market volatility (nature of landing, geopolitics, monetary easing pathway, inflation trajectory or market rotations among others) as likely to drive some price consolidation, possibly suggesting more muted returns in the near term. At the portfolio level, it means we keep our (structural) preference for US equity markets with a pinch of (actively-managed) small-mid caps and diversified S&P500 equal-weight index allocation, which should benefit most from lower rates and overall cost pressures. Elsewhere, we already reduced our Eurozone equity stance (slight underweight) in the previous month, especially as growth is again petering out with Germany still struggling. As such, we still prefer other European markets such as the UK and Switzerland.
Finally, we retain a cautiously neutral stance on bonds, with a preference for credit at the short end and belly of the curve vs. long term sovereign debt, combined with a diversification in Gold (upgraded to overweight), which is not only benefitting from the Fed’s anticipated easing cycle but could also prove a better safe haven than sovereign bonds in case of US political turmoil, additional budgetary slippage concerns or a no-landing scenario (Fed policy mistake by cutting too soon/too much).
To sum up, we remain cautiously optimistic and continue to favour an all-terrain approach to portfolio construction together, with a well-balanced diversified asset and sector allocation tilted towards high-quality plays in equities; a preference for credit carry and high-quality duration convexity in bonds, and a tangible allocation to gold, combined with USD and CHF exposure, as risk diversifiers.
Written by Fabrizio Quirighetti, CIO, Head of multi-asset and fixed income strategies
External sources include: LSEG Datastream, Bloomberg, FactSet.