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Divergent themes seen as buying opportunity

Claire Shaw says bullish market sentiment may shrink in the face of political risks and fallout from Brexit.

Money management executives are picking through European stocks to find the winners in a region that is still marked by diverging themes.

"Europe continues to be characterized by significant divergences in terms of economic growth, productivity and labor costs between countries," said Michael Spinks, London-based co-portfolio manager on the Investec Diversified Growth Fund and co-head of multiasset at Investec Asset Management. "As a multiasset investor, we have the luxury to pick and choose the exposures that we want and to avoid those areas which we find less attractive. So rather than having to make an overall decision on whether to buy European equities or not, we believe that it pays to be selective not only in terms of country and sectoral exposures within Europe but also at the level of security selection."

The firm currently thinks the best way to exploit opportunities "is through relative value positions by which we can express our preference for one region or sector over another and via the bottom-up selection of companies that have strong fundamentals, favorable valuations and improving momentum," Mr. Spinks said.

Other executives agreed that there are specific domestic Europe opportunities right now. Claire Shaw, portfolio manager, European equities, at SYZ Asset Management in Edinburgh, said the firm is a contrarian investor with an average holding period of three to five years, and looking to "exploit short-term thoughts" such as market fear.

"We have recently been buying a lot of companies that are exposed to volatility," Ms. Shaw said. Markets are in one of the "longest streaks of low volatility, so we've been buying those exposed (to volatility) that have been really hurt in the past few months. The market has been dumping those stocks."

The team is buying these companies in recognition that volatility will not be low forever, and is looking for high-quality businesses with attractive valuations. "We play the sentiment, and try to find the best quality businesses we can."

Regarding Europe specifically, sentiment is now bullish but "there are still political risks in Europe, and we don't know how Brexit will evolve," as well as upcoming German and Italian elections, Ms. Shaw said.

She said small- and midcap companies are interesting right now in the domestic Europe arena. "Year to date, European mid- and small caps are up 11% to 13%," outperforming large caps. "Clients say to me they want exposure to the improving macro story in Europe, and actually it is better to play that through some of the smaller companies in Europe. My allocations (in the first quarter) and assets under management grew pretty nicely on that theme, getting that exposure to the domestic bounce."

And when it comes to the U.K.'s exit from the EU, the team has been "looking at the Brexit victims — companies (that) have been punished on expectations that Brexit will hurt their business model." One result has been gaining exposure to a staffing company, which has good cash generation not reflected in its valuation.

Edward Perkin, chief equity investment officer at Eaton Vance (EV) Investments in Boston, said his sense is that U.S. and global investors looking to allocate to Europe are dipping "one toe in the water," leaning toward stronger economies in Europe, bellwether stocks and multinationals.

"The real bet, the real commitment, if you want to bet on Europe would be to go into the banking sector, more domestic-facing European companies. I don't think U.S. investors have done that yet." Mr. Perkin said these investors are simply looking at Europe from a "30,000-foot level," and have "not yet gone for it."