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The Raval neighborhood in Barcelona: Spanish exports within the euro zone have been resilient, even as the region’s economy is in a severe slump. (ALBERT GEA FOR THE GLOBE AND MAIL)
The Raval neighborhood in Barcelona: Spanish exports within the euro zone have been resilient, even as the region’s economy is in a severe slump. (ALBERT GEA FOR THE GLOBE AND MAIL)

INSIDE THE MARKET

In Spain, it’s time to run with the bulls Add to ...

If you are feeling bitter for missing out on the spectacular 70-per-cent rally in Japanese stocks over the past six months, perhaps it’s time to look elsewhere for basket-case economies that could soon be on the mend.

Spain fits the bill.

For sure, it doesn’t look like much right now. Indeed, Spain stands out for a number of nightmarish qualities that make the country look like a place for investors to avoid at all costs. The only bulls here are in Pamplona.

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Spain’s jobless rate has surged to an unimaginable 27 per cent and gross domestic product has contracted for seven straight quarters.

Just a year ago, the yield on the government 10-year bond surged to 7.5 per cent – driving up borrowing costs to levels widely seen as unsustainable and pointing to a potential financial crisis ahead.

As for stocks, Spain’s benchmark IBEX 35 has slumped 30 per cent since 2010, when the euro zone’s sovereign debt crisis kicked in, and is nearly half the level it was before the start of the global financial crisis.

There is a lot to dislike here, but there was a lot to dislike in Japan, too, before the Nikkei 225 embarked upon its best rally in a decade – illustrating yet again that dark days can be excellent times to invest if there are reasons to believe that the worst is nearly over.

Strategists at Pavilion Global Markets believe those reasons have arrived, transforming the unlikeliest of places into a bullish opportunity. “We now think there is a case to be made for Spanish equities,” they said in a note.

To be sure, markets have already reflected a tentative shift to optimism: The IBEX 35 has rebounded 44 per cent over the past 10 months and the 10-year government bond yield has retreated to 4.3 per cent.

However, these improvements are largely due to a sense of relief over the European Central Bank’s determination to keep the euro alive, and avoid a financial crisis, than with any hope for improvement in Spain itself.

That’s where the Pavilion argument gets interesting: They see a number of positive developments that are specific to Spain.

For one, the country has reformed its labour market by reducing the maximum severance payment by nearly 50 per cent. While that might sound grim in an era of rising unemployment, it raise incentives to hire when the labour market improves.

As well, unit labour costs have fallen by 10 per cent since 2009, while costs have risen in France, Italy and Germany. That should increase Spain’s competitive position in the euro zone.

Pavilion believes that this is already happening: Spanish exports within the euro zone have been resilient, even as the region’s economy is in a severe slump.

“This will become even more evident when cyclical trends become more supportive,” the Pavilion strategists said. “Spain is likely to grow at the expense of countries that have not done reforms (again, we are thinking of France).”

Lastly, consider that Spain’s austerity measures – otherwise known as major budget cuts by the government – are expected to become less severe this year and next, meaning that the worst days of the fiscal shock are probably over.

Add it up, and the result could mean good things ahead for Spanish stocks. They have enjoyed a fine run since bottoming out last July, when ECB president Mario Draghi said the central bank would do “whatever it takes” to preserve the euro. But they have essentially stalled since September: The iShares MSCI Spain capped index exchange traded fund has risen less than 4 per cent since then.

Investors are waiting for good news. But as Japan has shown, the best time to invest is before the good news arrives.

Follow on Twitter: @dberman_ROB

 
Security Price Change
IBEND-I IBEX 35, Spain 10,538.80 5.20
0.05 %
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