European Stocks to Advance Next Year, Merrill Says

By Alexis Xydias

Dec. 10 (Bloomberg) -- European stocks may be poised for a year-end rally and will likely climb 9.1 percent through 2009, according to Merrill Lynch & Co. The advance would help investors recoup only about one-tenth of their 2008 losses.

The Dow Jones Stoxx 600 Index may end next year at 224, Merrill’s European strategists wrote in a report today, and climb in coming weeks as interest-rate cuts, government bail- outs and a new U.S. administration ignite investors’ appetite for stocks. In the case of a “severe recession,” which is not their central scenario, the index would drop to 156, Merrill said. The European benchmark closed at 205.33 yesterday.

“We see scope for a trading rally in equity markets into the New Year as risk trades re-open, cash is put to work and policies introduced in the third quarter start to gain traction,” wrote the strategists, led by Gary Baker. “We then see markets in a trading range for the remainder of the year as we slowly get to grips with accumulated imbalances.”

Merrill’s estimate is less bullish than other brokerages such as Credit Suisse Group AG and Deutsche Bank AG, and implies that investors next year will only recover 12 percent of their 2008 losses. The Stoxx 600 tumbled 44 percent this year amid the worst global financial crisis since the Great Depression.

Value Traps

Buying shares because they are cheap may not work because valuations are “almost meaningless” and the traditional “reversion to mean” trend “stopped working a long time ago,” the note said. The Stoxx 600 is valued at 9.3 times its companies’ reported earnings, compared with 12.7 at the start of 2008, data compiled by Bloomberg show.

The global economic recession will likely bring earnings in Europe down by 40 percent from their peak, the note said. A “severe recession” scenario would wipe out all the profit- margin improvements of the last two decades and cause earnings to plummet 58 percent from peak to trough, they wrote.

“The seizure suffered by the global economy in the fourth quarter will lead to one of the weakest quarters of growth in the post-war period,” the team wrote. “But the speed of collapse has been echoed in the performance of bonds and equities year-to-date.”

Credit Suisse and Deutsche Bank strategists yesterday predicted the Stoxx 600 may end 2009 at 250, a 22 percent gain from yesterday’s close. Stocks will post “higher double-digit returns” in 2009, UBS AG’s global strategist said Dec. 1. Morgan Stanley has been among the most bearish, saying on Dec. 1 that shares in Europe may rise about 2 percent in twelve months.

To contact the reporter on this story: Alexis Xydias in London at axydias@bloomberg.net.