The long-term rewards of a contrarian approach to European equities

European equity markets are witnessing heightened performance dispersion across countries, sectors and individual stocks as the region seeks to get to grips with an uncertain and fast-evolving global landscape. 

In an environment of intrinsic uncertainty driven by geopolitical instability, deglobalisation and an unfolding AI revolution, we think active, research-driven investors are well-positioned to identify opportunities that others may overlook — even more so if they are willing to take a contrarian approach and look beyond short-term volatility and macro headlines to uncover companies with long-term earnings potential that the market is currently missing. 

Identifying long-term winners in an evolving Europe

In our view, Europe’s structural transition presents a particularly compelling opportunity for a contrarian investment philosophy. For us, the key elements of building a resilient, core European equity portfolio to navigate today’s new economic era include:

• Focusing on domestically orientated companies that stand to benefit from fiscal stimulus and other long-term structural themes across a broad range of sectors, including health care, defence, finance and construction.
• Embracing an active, forward-looking approach that reflects the uneven nature of structural transitions — where the winners and losers will vary significantly across sectors and geographies.
• Capitalising on Europe’s broader opportunity set — particularly valuable in today’s environment of higher volatility and dispersion.

The contrarian advantage: looking beyond the noise

We advocate a focus on companies where the market is pricing in negative earnings revisions indefinitely, despite their solid fundamentals and the potential for long-term growth. That means uncovering durable business models that have the financial resilience to weather cyclical downturns and benefit from secular trends.

In practice, we think investors should start by homing in on the opportunity set. In our process, for instance, we screen for signs of mispricing to identify companies that have experienced significant share price declines and negative earnings revisions, but where the pace of negative earnings revisions is slowing, which can signal a potential turning point. We look at around 200 to 300 names and assess:

• balance-sheet strength;
• exposure to structural tailwinds; and
• long-term direction of travel — where positive fundamentals are being obscured by short-term market noise.

We revisit the investment thesis regularly, using a detailed checklist-based process to ensure each company continues to execute as expected and remains on an upward trajectory.

Harnessing Europe’s structural growth drivers

In our view, understanding and aligning with the longer-term factors that drive performance is key to the potential success of our investment approach. The rapid changes currently occurring in Europe make this even more essential. For instance, our research has identified a number of companies in the food and building materials sectors that we believe stand to benefit from long-term structural drivers such as shifting consumer demand patterns, regulatory changes that enhance growth potential and company-specific advantages like leadership in R&D. 

• Healthier food ingredients

The food sector is undergoing a major transformation, and we see significant opportunities in underappreciated food ingredient companies where the likely ongoing dramatic rise in diabetes cases (Figure 1) should continue to drive innovation and demand. 

We’ve invested, for example, in a global leader in low-calorie sweeteners and added fibre — products that support healthier lifestyles and help reduce the risk of diabetes. Over the past five years, this company’s innovations have enabled the removal of 9 million tons of sugar from global diets, which is equivalent to 36 trillion calories. We expect sustained demand for healthier ingredients to drive its ongoing, long-term growth.