By Charles Dautresme From Standard & Poor's European MarketScope
The third-quarter earnings reporting season is well under way for European companies, so we can already draw some early conclusions. Analysts remain bullish about the market as a whole, and the health-care sector is a particular favorite as its reporting season comes to an end.
So far, 92 companies in the S&P Europe 350 have released their quarterly results, slightly less than a third of the index constituents. Overall, analysts are positive about the market, with the upgrade-downgrade ratio still above 1, at 1.44. This means that currently 1.44 analysts are upgrading earnings estimates of companies for each downgrade.
HEALTHY RESULTS. This positive upgrade-downgrade ratio contrasts strongly with the market correction we experienced in October. This could mean that the markets were only pausing after a sharp rally of close to 19% since the start of the year to the end of September -- and are likely to resume this upward trend.
In most sectors, only a few companies have already reported their third-quarter results. In health care, however, some 70% have already released figures. Furthermore, most of the heavyweights, such as GlaxoSmithKline (GSK), have reported (together accounting for 69% of the sector's market capitalization). The upgrade-downgrade ratio for the sector remains well above 1, at 2.79. This implies that the health-care sector has not yet lost momentum and could continue its strong performance, at least in the short term.
In October, the health-care group rose 5.6% relative to the market, making it the best-performing sector of the month. It's also the second-best-performing sector since the start of the year, rising 8% relative to the market. Not surprisingly, the best-performing group since the beginning of the year is the energy sector, which has gained 11.1%. For the other sectors, it's difficult to draw any conclusions because few companies have reported.
STAY TUNED. The consumer-staples sector, in particular, will require some attention, as its upgrade-downgrade ratio has fallen below 1, to 0.72. Third-quarter results from this group will have to be scrutinized. Results at the lower end of expectations, such as those recently announced by Danone (DA), or missing estimates, could send the sector lower. Furthermore, the consumer-staples group has broken through its three-year trading range, at 17 times 2005 earnings estimates.
How should investors react to these developments? We believe they would be well advised to increase their exposure to the health-care sector, at least in the short term, and should remain cautious about the prospects of the consumer-staples group. S&P Equity Research has a 5 STARS (strong buy) recommendation on AstraZeneca (AZN) and 4 STARS (buy) recommendations on Glaxo and Roche (RHHBY).
London-based Dautresme is a European equity strategist for Standard & Poor's Equity Research Services