As European finance ministers gather for their latest crisis meeting Monday, it is becoming plain that the long-running sovereign debt drama is nowhere near its conclusion and that the markets will remain shrouded in a thick fog of uncertainty for many months to come.
Sure, the Greeks are edging toward a deal with key bond creditors on what the politicians call a voluntary debt exchange. At the end of the process, the banks and a handful of other institutional holders will be left with about 30 cents on the euro. Greece will be relieved of about €100-billion worth of debt obligations, and Athens will be able to get its hands on the next bailout payment, which will enable it to stave off bankruptcy a while longer.
In the remote chance everything goes according to plan, the restructuring pact with creditors won't be classed as an effective debt default – even though it is exactly that. The 17 euro-zone countries will all eagerly accept Germany's harsh fiscal prescription for their future, and reassured investors will plow back into unloved Italian and Spanish bonds.
Unfortunately, the European track record inspires little confidence, and much of the euro zone is on track to spend a good portion of the year mired in a recession. So it's not surprising analysts warn this is no place for those allergic to violent price swings.
Yet a funny thing has been happening. Whether through relief that the euro structure is still standing, genuine conviction that a resolution to the crisis is at hand or a desire to grab some bargains, money has been pouring back into European bonds and selected stocks.
European bond funds took in more investor cash last week than at any time in the past two and a half years and corporate bond funds attracted their most new capital in more than a year, says EPFR Global, which tracks fund flows around the world. Money departed from equity funds, although stocks in general have been showing signs of life.
Equities reached a five-month high last week before dipping slightly on Friday. The benchmark Stoxx Europe 600 index has climbed 4.6 per cent so far this year, its best opening month since 1997, according to Bloomberg data.
But careful stock-picking, not index investing, is the way to play Europe in the best of times, say the pros. They remain remarkably bullish on the prospects of certain companies, even in the midst of an economic slump – specifically those with healthy balance sheets and preferably strong market positions in other parts of the world.
Many of these stocks are still attractively priced, but not across the board. "I would say over the last year or so people have started recognizing that these companies are performing better fundamentally. So the valuations have recovered a bit. They're not as cheap as they were," says Ken Broekaert, a European equity specialist who plies his craft at Burgundy Asset Management, a conservative value shop based in Toronto.
Less than half the profits of the 26 companies in Burgundy's current European portfolio are generated in Europe and only about 35 per cent are in euros. Well under 10 per cent of their profit is derived from the hard-hit peripheral euro-zone countries. More important, emerging markets account for at least one-quarter of their business, on average.
The Burgundy list is crowded with the usual multinational suspects: Unilever, Heineken, GlaxoSmithKline, business software heavyweight SAP, Nestlé and French ad giant Publicis Groupe, to name a few. But it also includes Colruyt, a family-controlled Belgian food retailer that focuses on its domestic market and three neighbouring countries, all in the euro zone.
"We don't try to own and know everything," Mr. Broekaert says. "We try to focus on a small subset of companies that meet our criteria. We keep track of them, and when we think they get cheap enough, we buy them."
Those criteria include good, sustainable long-term returns on capital; a strong balance sheet with little debt; high-quality management aligned with long-term investor interests; and resilience in harder times. "We really like business models that are recurring by nature," he says. Which means consumer marketers whose products are closer on the spectrum to necessity than luxury and companies that derive a steady stream of profits from after-sales services and maintenance.
Needless to say, your typical deep-value investor doesn't pay an inordinate amount of attention to the macro-economic picture or the various crisis prognoses.
"The way we invest and how picky we are about what types of companies we own and at what valuations we'll own them, I would say: Don't let that macro worry keep you from investing in the many great companies that are available in Europe."
By the same token, it would be a mistake to be too optimistic. "I don't think it would be wise to try to be really clever, to take a macro view that we're getting a big recovery and then pick stocks that are torqued in every way to it – with all kinds of operating and financial leverage."
His advice: "Just be prudent and be prepared for it to be bumpy."
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European stocks to keep an eye on, according to Mr. Broekaert:
Unilever Change at top has shaken up sleepy management. Less than a third of revenue from Europe.
Nestlé Getting pricier, but still good value.
SAP Solid recurring revenue from the service and maintenance part of its enterprise software business. Oracle only serious competitor, and awfully costly and complicated for big customers to switch.
Heineken Most levered company on Mr. Broekaert's list. But great brand and more than enough projected cash flow to cover debt. More than 40 per cent of sales in emerging markets.
Colruyt Lowest-cost Belgian retail grocery chain. Clean balance sheet. Best-run food retailer he's ever come across for return on capital.
Publicis French ad powerhouse derives about 60 per cent of profit from the United States. Digital advertising accounts for about 30 per cent of business.
GlaxoSmithKline No more exposure to Europe than U.S. competitors and better placed in emerging markets like India.
Henkel Not just knives, but detergents, industrial adhesives and other products. First non-German CEO has been slaying sacred cows that impeded profit growth.
Schindler Major Swiss maker of elevators and escalators gets lift in tough times, because building managers still have to pay for maintenance.
Ebro Foods Spanish pasta and rice producer remains priced above what Mr. Broekaert is willing to pay.