Buy European banks and oil

A degree of optimism has returned to the markets following a dismal year, says professional investor Kathleen Brooks. So, where will she be putting her money?

Each week, a professional investor tells MoneyWeek where she'd put her money now. This week: Kathleen Brooks, research director at

The markets seem to be at an inflection point. After a fairly dismal 2011, sentiment has improved as we have moved into 2012. Europe remains the biggest worry, especially Greece, which faces the prospect of an orderly or disorderly default. So investing decisions this year are even more fraught with difficulties than usual. But that doesn't mean it's all bad news for investors.

Firstly, a global environment of loose monetary conditions should cushion any hard landing or economic shock. Meanwhile, tensions in the world's most important oil route, the Strait of Hormuz, combined with the potential for further disruption to Libyan oil supplies, may keep the price of energy high. Thirdly, stocks, especially in Europe, are at exceptionally cheap levels. So here are my tips.

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My first target is the pound (GBP). Britain is at the forefront of the global easy money' theme the Bank of England (BoE) is making no attempt to raise rates and instead plans to flood the economy with money (via quantitative easing) to stimulate growth as the government tries to reign in the public finances. The asset purchase programme could expand to £400bn by the end of this year, which will leave the BoE by far the largest holder of UK government debt. Alarm bells should be ringing for a country with a debt burden that topped £1trn in December.

This should all be pound negative, so we don't see the recent strength in the pound versus the euro or the US dollar (USD) continuing. Indeed, we could easily see GBP/USD back at its 1:1.50 low in the coming months, especially if the Federal Reserve backs away from more quantitative easing. Against the euro, the pound's performance is trickier to predict. But without a major deterioration in the sovereign debt crisis, for EUR/GBP a rate of 1:0.85 may mark the top.

I also like Brent crude oil in the medium term. If the gathering strength in the US recovery can be maintained, then we believe it could kick-start growth elsewhere, say in China (a major exporter to America) and eventually Germany. We have seen some tentative signs of stabilisation in Europe, which may also put upward pressure on the oil price.

Added to all that the tensions in the Strait of Hormuz, and an embargo of Iranian oil by the European Union and America, won't do anything to help supply issues. Some argue that Saudi Arabia can offset any supply slack, but that suggests that the global buffer of reserve stocks will drop, which is positive for the oil price.

Throw in the massive social spending programmes by oil producers in the wake of the Arab Spring and the price could remain fairly high even if global growth stalls. So we are buyers at between $105 and $107 per barrel, and we have a target price of $115 in the medium term.

My third pick is European banking stocks. They are incredibly cheap on a price/earnings (p/e) basis French lender Socit Gnrale, for example, has an estimated p/e for this year of a mere 5.48. This is at a time when the European Central Bank (ECB) has pledged long-term funding support for the banks, which may help them to stage a modest recovery. I expect share price gains in the region of 5%-10% this year.

The biggest risk is that a disorderly default in Greece and Portugal causes a mini market panic. But with the ECB now turning on the spigots for the banking sector, the risk of a complete collapse, or the bankruptcy of another major European lender, has been mitigated.