Europe: The Week Ahead (Feb 18-22), Germany: Trouble In The Euro Area's Economic Engine

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Includes: DTEGF, DTEGY, EWG, EWGS, INFO, S, SFTBF, SFTBY, TELDF, TMUS, VOD, VODAF, VODPF
by: Interactive Brokers
Summary

The European calendar is gearing up for a busy round of economic releases in the week ahead, with a raft of reports due out of Germany, including inflation and manufacturing.

Investors will generally be keeping a close eye on the European economic engine, as data in the country recently stoked fears about the growth prospects of the broader Euro Area.

Meanwhile, shares of some of Germany’s top telecom operators have been on a downward slope this past year, amid slowing global growth, turbulent trading conditions and geopolitical concerns.

Telefonica Deutschland and Deutsche Telekom are each slated to release full-year 2018 results.

The European calendar is gearing up for a busy round of economic releases in the week ahead, with a raft of reports due out of Germany, including inflation, manufacturing and GDP.

Investors will generally be keeping a close eye on the European economic engine, as data in the country recently disappointed, stoking fears among market participants about the growth prospects of the broader Euro Area.

Monday, February 18

  • ZEW Economic Sentiment Index (Feb)

The week kicks off with an update on economic sentiment from German research institute ZEW, after January’s gauge of current conditions plunged by 17.7 points to 27.6 – the lowest level in four years.

However, ZEW president Achim Wambach waxed somewhat optimistic about the dismal report, noting that it was “remarkable that the ZEW Economic Sentiment for Germany has not deteriorated further given the large number of global economic risks.”

Wambach added that “financial market experts have already considerably lowered their expectations for economic growth in the past few months. New, potentially negative factors such as the rejection of the Brexit deal by the British House of Commons and the relatively weak growth in China in the last quarter of 2018 have thus already been anticipated.”

Indeed, the International Monetary Fund had cut its global growth outlook in January from its assessment in October 2018, amid risks that have tilted to the downside, including U.S.-China trade-related tariff effects, a “no-deal” withdrawal of the UK from the EU, and a greater-than-expected slowdown in China.

According to the IMF’s World Economic Outlook, growth in the Euro Area is set to moderate from 1.8% in 2018 to 1.6% in 2019 (0.3 lower than anticipated last fall) and 1.7% in 2020. The WEO stated that growth rates have been “marked down for many economies, notably Germany (due to soft private consumption, weak industrial production following the introduction of revised auto emission standards, and subdued foreign demand).”

The IMF anticipates Germany’s output at 1.3% in 2019, a reduction of 0.6 points from its October WEO.

While the ZEW Economic Sentiment Index rose by 2.5 points in January 2019, and now stands at -15.0 points, the indicator is still well below its long-term average of 22.4 points.

Wednesday. February 20

  • PPI (Jan)

The producer price index (PPI) for sales of German domestic, industrial products rose by 2.6% on an annual average in 2018 from the preceding year. In 2017, the index had increased by 2.7% compared with 2016, as reported by the Federal Statistical Office (Destatis).

In December 2018, the PPI increased by 2.7% year-on-year, while in November the annual rate of change all over had been 3.3%.

Compared with November, the overall index decreased by 0.4% in December 2018 (+0.1% in November 2018 and +0.3% in October 2018).

Prices of all main industrial groups rose across the board in December 2018 year-over-year, with energy prices up 6.9%, intermediate and durable consumer goods up 1.9%, capital goods up 1.4% and non-durable consumer goods up 0.5%.

The overall index ex-energy climbed 1.6% over the same year-ago month, and unchanged compared with November 2018.

Thursday, February 21

  • CPI – Final (Jan)
  • Markit Services PMI (Flash – Feb)
  • Markit Manufacturing PMI (Flash – Feb)

Elsewhere, investors Thursday will receive flash readings of Germany’s Services and Manufacturing PMIs from IHS Markit.

The nation’s service sector had started 2019 on a slightly firmer footing, with business confidence having recovered a bit from the recent low in December. However, rates of new order growth and job creation slowed, as firms' operating expenses showed the steepest monthly rise in nearly eight years.

The IHS Markit Germany Services PMI Business Activity Index ticked up in January for the first time in four months, indicating a more solid rate of growth than at the end of 2018. However, at 53.0 from 51.8 in December, the latest reading was still the second-lowest in the past eight months and below the average recorded since the current upturn began in mid-2013 (54.2).

Meanwhile, conditions across Germany's manufacturing sector deteriorated in January, with the latest PMI survey data from IHS Markit and BME showing inflows of new orders falling at the fastest rate in more than six years.

The survey attributed the drop in demand to client uncertainty, trade tensions and a slowing auto industry. The start to 2019 was also marked by a further slowdown in the rate of input cost inflation in the sector to a 27-month low, reflecting the recent downward pressure on several key global commodity prices and falling demand for inputs.

At 49.7 in January, down from 51.5 in December, the headline IHS Markit/BME Germany Manufacturing PMI – a single-figure snapshot of the performance of the manufacturing economy – was below the 50.0 'no-change' mark for the first time in more than four years.

IHS Markit economist Phil Smith observed that Germany's manufacturing sector “showed no sign of turning the corner in January, with the downturn in order books extending to a fourth straight month and gathering pace.” He noted that stocks of finished goods “rose the joint-most on record, backorders continued to be depleted, and firms' expectations towards future output showed no appreciable improvement from last October's six-year low.”

An update on inflation measures will also be on the docket Thursday, after Destatis said it expects the consumer price index (NYSEARCA:CPI) to come in at 1.4% in January – a decline of 0.8% from the prior month.

Friday, February 22

  • GDP Growth Rate – Final (Q4)
  • Ifo Current Conditions, Expectations, Business Climate (Feb)

Market participants were generally relieved Thursday, when Destatis unveiled its Q4’18 report on Germany’s GDP growth rate, which remained at a flattish level from the prior quarter. Many in the market feared the country would slip into recession after having contracted in Q3’18.

However, Destatis noted that “after a dynamic start into the first half of the year (+0.4% in the first quarter, +0.5% in the second quarter), a small dip (-0.2% in the third quarter, 0.0% in the fourth quarter) was recorded in the second half of the year. For the whole year of 2018, this was an increase of 1.4% (calendar adjusted: 1.5%)” – signaling slightly less growth than reported in January.

Positive contributions since the prior quarter mainly came from domestic demand, with marked increases in gross fixed capital formation – especially in construction, machinery and equipment.

The final reading of Germany’s GDP growth rate is slated for Friday.

Also, ahead of the weekend, ifo is scheduled to release the results of its February Business Survey.

Clemens Fuest, president of the ifo Institute, said in the aftermath of January’s results that disquiet “is growing among German businesses.”

The ifo Business Climate Index fell from 101.0 points in December to 99.1 points in January, dropping to its lowest level since February 2016.

Fuest concluded that the German economy is “experiencing a downturn,” after companies assessed their current business situation “slightly less favorably,” while expectations also “deteriorated sharply and turned pessimistic for the first time since December 2012.”

Company Earnings

Telecoms on the Line

Shares of some of Germany’s top telecom operators have been on a downward slope this past year, amid slowing global growth, turbulent trading conditions and geopolitical concerns.

Deutsche Telekom (DE: DTE), for example, has seen its stock fall roughly 8.5% since its latest 52-week high set in late November, and Telefonica Deutschland Holding’s (DE: O2D) shares have plummeted close to 29.25% since May 2018.

S&P Global analysts Lukas Paul and Mark Habib recently noted that they expect “limited change to broadband market shares and investment trends in Germany over the next two to three years, leaving it behind other European markets in terms of fiber-to-the-home (FTTH) deployment.”

For DT, S&P said that apart from the company’s pending merger of its T-Mobile US (NASDAQ: TMUS) subsidiary with Japan’s Softbank-owned (TYO: 9984) Sprint (NYSE: S), “long-term rating pressure could result if consumer demand for faster broadband speed increased rapidly, accelerating subscriber churn to cable or alternative high-speed networks.”

Paul and Habib added that this “could force DT to embark on significantly higher capex for an extended period of time to regain market share, and adversely affect our view of the business as well as weaken free operating cash flow and EBITDA.”

Meanwhile, Telefonica, which has wholesale access to DT's network, has converged only 5% of its total mobile customer base (10% of postpaid) to date.

S&P observed that its strategy remains focused on the mobile market, and Paul and Habib noted they expect “low-single-digit revenue declines for fixed, with modest price increases unable to offset subscriber losses.” They added that if the Vodafone-Unitymedia merger concludes with no cable wholesale access, they think Telefonica could “suffer as the only mobile network operator without a broad convergent offering in Germany.”

Telefonica Group, which touts 343 million customers worldwide, said that by 2022, it aims to become the "Mobile Customer & Digital Champion" – the preferred partner of customers in the German mobile communications market.

Telefonica Deutschland is scheduled to release its preliminary 2018 financial results Wednesday, with DT to follow Thursday with its full-year 2018 results.

Note: This material was originally published on IBKR Traders' Insight on February 14, 2018.

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