Europe Is Still In The Throes Of Covid-19, But Its Stocks Are Rallying

European stocks have been on the rise as international investors reposition their portfolios for the global economy to return to normal—a trade that hinges on smooth reopenings in the region.

The pan-continental Stoxx Europe 600 index has gained 4.5% so far this month, pulling ahead of major U.S. gauges, and on Friday hovered close to its highest point in more than a year. The S&P 500 has added 3.5% in the same period and the Russell 2000, an index of small-cap U.S. companies, has increased 6.9%. The Nasdaq Composite has gained 1% so far this month.

Analysts say this is due to a rotation from growth to value stocks: Investors have been snapping up shares of companies hit hard by the pandemic and selling those that benefited from stay-at-home orders. Europe is emerging as a beneficiary of this trade, which banks on a strong economic rebound.

“Europe is predominantly a value market, the U.S. is predominantly a growth market,” said Kasper Elmgreen, head of equity investing at Amundi. “This rotation benefits Europe disproportionately.”

Value stocks are thought to be trading below what they are currently worth. They are typically in established industries and pay dividends, and include banks, energy and industrial companies, which are also more sensitive to the economic cycle. Growth companies are younger and perceived to be innovative, with potential to do well in the future, such as technology.

But delays to the European Union’s procurement of vaccines is likely to result in its member states keeping social-distancing and travel restrictions in place for longer than countries that are inoculating their populations faster, such as the U.S. and Israel. This might mean that Europe’s economic rebound is slower and weaker. Italy reimposed stricter curbs in several regions last week and plans to lock down nationally over Easter.

“We are finding a little bit more opportunity outside of the U.S. [Value stocks] look cheaper and more undervalued overseas,” said Brent Fredberg, director of investments at Brandes Investment Partners in San Diego. “Now you’ve still got a long way to go in many of these companies, even though they’ve rallied hard.”

A key reason for Europe’s recent strong stock-market performance is the composition of indexes. The Stoxx Europe 600 is more heavily weighted toward industries that are considered to be value, such as financials at 17%, industrials at 16% and energy companies at 5%. Its weighting for technology and communications is 10%, compared with 37% for the S&P 500.

Amundi’s Mr Elmgreen has bought shares of European auto makers and companies that produce construction materials recently, and said he is “significantly underweight” U.S. tech, meaning he owns less than the benchmark he tracks.

Another driver of Europe’s performance is the bond market. The sense of optimism about economic growth has also driven fund managers to dump safe-haven assets such as sovereign debt, causing yields to rise and prices to drop. Government bond yields are used as a reference for the cost of debt in the broader market, including loans to companies. That rise in yields implies higher financing costs, benefiting lenders.

European banks have been among the best performers so far this year. Investors have been expecting the recent rise in yields to improve their net interest income, a key source of revenue. French bank Natixis SA has surged 47%, while Amsterdam-based ING Groep NV and Spain’s Banco de Sabadell SA have both risen 32%.

The Vanguard FTSE Europe ETF is up 5.6% for the year and the iShares Europe ETF has also risen 5.5%. Another iShares ETF that invests in European financial firms has climbed 12%.

Companies in sectors still curbed by government restrictions have also jumped. German travel company TUI AG is the biggest winner on the Stoxx Europe 600 this year, soaring 56%. International Consolidated Airlines SA has added 39% and InterContinental Hotels Group PLC has risen 15%.

But whether these gains are justifiable is still a question, according to Simon Webber, a portfolio manager at Schroders with a focus on global equities. “Travel has fundamentally changed, people are used to working productively, meeting and supporting customers remotely,” he said. Aviation stocks in particular “will be heavily scrutinized,” he added.

He has increased his holdings of European banks, but is also looking at buying more growth stocks such as electric-vehicle companies.

First, the good news for office landlords: A post-Labor Day bump nudged return-to-office rates in mid-September to their highest level since the onset of the pandemic.

Now the bad: Office attendance in big cities is still barely half of what it was in 2019, and company get-tough measures are proving largely ineffective at boosting that rate much higher.

Indeed, a number of forces—from the prospect of more Covid-19 cases in the fall to a weakening economy—could push the return rate into reverse, property owners and city officials say.

More than before, chief executives at blue-chip companies are stepping up efforts to fill their workspace. Facebook parent Meta Platforms, Amazon and JPMorgan Chase are among the companies that have recently vowed to get tougher on employees who don’t show up. In August, Meta told employees they could face disciplinary action if they regularly violate new workplace rules.

But these actions haven’t yet moved the national return rate needle much, and a majority of companies remain content to allow employees to work at least part-time remotely despite the tough talk.

Most employees go into offices during the middle of the week, but floors are sparsely populated on Mondays and Fridays. In Chicago, some September days had a return rate of over 66%. But it was below 30% on Fridays. In New York, it ranges from about 25% to 65%, according to Kastle Systems, which tracks security-card swipes.

Overall, the average return rate in the 10 U.S. cities tracked by Kastle Systems matched the recent high of 50.4% of 2019 levels for the week ended Sept. 20, though it slid a little below half the following week.

The disappointing return rates are another blow to office owners who are struggling with vacancy rates near record highs. The national office average vacancy rose to 19.2% last quarter, just below the historical peak of 19.3% in 1991, according to Moody’s Analytics preliminary third-quarter data.

Business leaders in New York, Detroit, Seattle, Atlanta and Houston interviewed by The Wall Street Journal said they have seen only slight improvements in sidewalk activity and attendance in office buildings since Labor Day.

“It feels a little fuller but at the margins,” said Sandy Baruah, chief executive of the Detroit Regional Chamber, a business group.

Lax enforcement of return-to-office rules is one reason employees feel they can still work from home. At a roundtable business discussion in Houston last week, only one of the 12 companies that attended said it would enforce a return-to-office policy in performance reviews.

“It was clearly a minority opinion that the others shook their heads at,” said Kris Larson, chief executive of Central Houston Inc., a group that promotes business in the city and sponsored the meeting.

Making matters worse, business leaders and city officials say they see more forces at work that could slow the return to office than those that could accelerate it.

Covid-19 cases are up and will likely increase further in the fall and winter months. “If we have to go back to distancing and mask protocols, that really breaks the office culture,” said Kathryn Wylde, head of the business group Partnership for New York City.

Many cities are contending with an increase in homelessness and crime. San Francisco, Philadelphia and Washington, D.C., which are struggling with these problems, are among the lowest return-to-office cities in the Kastle System index.

About 90% of members surveyed by the Seattle Metropolitan Chamber of Commerce said that the city couldn’t recover until homelessness and public safety problems were addressed, said Rachel Smith, chief executive. That is taken into account as companies make decisions about returning to the office and how much space they need, she added.

Cuts in government services and transportation are also taking a toll. Wait times for buses run by Houston’s Park & Ride system, one of the most widely used commuter services, have increased partly because of labor shortages, according to Larson of Central Houston.

The commute “is the remaining most significant barrier” to improving return to office, Larson said.

Some landlords say that businesses will have more leverage in enforcing return-to-office mandates if the economy weakens. There are already signs of such a shift in cities that depend heavily on the technology sector, which has been seeing slowing growth and layoffs.

But a full-fledged recession could hurt office returns if it results in widespread layoffs. “Maybe you get some relief in more employees coming back,” said Dylan Burzinski, an analyst with real-estate analytics firm Green Street. “But if there are fewer of those employees, it’s still a net negative for office.”

The sluggish return-to-office rate is leading many city and business leaders to ask the federal government for help. A group from the Great Lakes Metro Chambers Coalition recently met with elected officials in Washington, D.C., lobbying for incentives for businesses that make commitments to U.S. downtowns.

Baruah, from the Detroit chamber, was among the group. He said the chances of such legislation being passed were low. “We might have to reach crisis proportions first,” he said. “But we’re trying to lay the groundwork now.”

Europe Is Still In The Throes Of Covid-19, But Its Stocks Are Rallying

Certain shares surge as investors look for beaten-down stocks.

Office owners are struggling with near record-high vacancy rates