It’s difficult to imagine a time when anybody was more bullish on Europe than America, but this was a popular investment thesis before the global financial crisis. The US had a giant housing bubble, a vast trade deficit and a currency in steady decline. Consumers were heavily dependent on spending their savings, according to statistics at the time (this data later got revised, and those eight quarters with a negative savings rate turned out to be an error – a good example of how unreliable statistics can be, as I discussed last week). Europe also had housing bubbles, but otherwise looked sounder and was well placed to benefit from emerging market growth.
We all know how this theory turned out. Europe has trailed the US on virtually every financial measure since the crisis (one can very fairly argue that Europe still offers a better quality of life in many ways, but that’s not what we are looking at). The reasons for this go beyond the idea that America is simply more innovative and dynamic, with a whole series of events working against Europe or for the US.
The eurozone debt crisis dragged on far too long, with far too much can-kicking. The shale revolution created a huge advantage for US growth and for the trade balance. Regardless of one’s views on Brexit itself, most people would acknowledge that the process was a distracting, exhausting upheaval for both Britain and the EU. Most recently, Russia’s invasion of Ukraine turned an energy disadvantage into a crisis, put a full-scale war on the borders of a continent that was complacent and completely unprepared for it, and sent uncertainty and fear rocketing. Look back at all this and maybe we should be amazed that Europe hasn’t done even worse.
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Still, it didn’t help that Europe put its head in the sand much more than America when cleaning up its banks after the crisis. US policymakers did not exactly get this right – banks were bailed out too freely, there was no accountability for the actions that led to the crisis, and interest rates were cut too low and stayed there too long. Yet its bank stress tests were a success: they led to clear recapitalisation plans, restored confidence in the sector and left banks able to lend again.
European banks stocks are accelerating
Europe’s stress tests were a fudge, and markets knew it. Banks were not recapitalised quickly: they only gradually recognised bad debts while they rebuilt capital. Ultra-low interest rates hurt profitability and made this process slow. That meant that they were in a weak position to lend, even if demand was there. So, US bank shares far outstripped European ones for the next decade.
Yet on the eve of the pandemic, European banks were finally in better shape. After shares bottomed in April 2020, they began to rally. Since 2023, they have beaten US banks and are accelerating. Valuations are rising: the Euro Stoxx Banks index is on a price/book of 1.1, up from 0.7 two years ago. Banks are highly cyclical, and I never like the sector, but they are central to the economy. If Europe is to regain ground against the US this decade, they should have further to run over the long term.
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