European Recovery Fund

June 24, 2021

The COVID-19 vaccination campaign continues to gain momentum in Europe. According to the European Centre for Disease Prevention and Control, 194 million Europeans have received at least one dose of the vaccine (52.5% of the adult population), and 106 million are now fully vaccinated (28.7% of the adult population). In the meantime, European equity markets have been outperforming other regions since March. After years of capital outflows, European equities seem to have regained some interest from International investors.

We recently conducted interviews with a number of holdings, including Royal Unibrew, Autogrill, and Soitec, and found it notable that most management teams we spoke with mentioned the improving pace of the recovery. European companies continue to acknowledge inflation, but many seem to argue that a combination of price increases and cost cutting can mitigate the impact. Looking the at Corporate Social Responsibility (CSR) agendas of these companies, their sustainability initiatives continue to improve. With the energy transition and digitalization as a source of growth, European companies could be beneficiaries of a new stimulus package.

After months of discussions, the European Recovery Fund (also known as the Next Generation EU) came to life at the end of May after it was ratified by all national parliaments. With the national ratifications completed, the EU can now make funds available and start issuing bonds. The fund was designed to help member states manage the economic and social impact of the COVID-19 pandemic. The fund’s other objective is to ensure that the EU countries’ economies undertake a green and digital transition in order to make them more sustainable and resilient.

The EU Recovery Fund is an important tool for the economic and political perspective in the EU. For the first time, the EU will be able to borrow large amounts for budget purposes. While the larger EU economies are likely to receive more in nominal terms, countries with lower per-capita GDPs should be the biggest recipients. The EU Recovery Fund, which will finance part of the energy transition plan, became the key financial pillar of the EU’s Green Deal. As a reminder, the objective of the EU Green Deal is to achieve climate neutrality by 2050 and to further reduce greenhouse emissions by 2030.

A significant part of that €750 billion European fiscal plan (2018 price) will come from the Recovery and Resilience Facility (RRF), which should capture 90% of the total envelope. The EU Commission has stipulated that governments should spend at least 37% of the RRF on the green transition, and 20% on the digital transformation. The Commission also set up key areas for spending:

  • Clean technologies and renewables
  • Energy efficiency of buildings
  • Sustainable transport and EV charging stations
  • Rollout of rapid broadband services
  • Digitalization of public administration
  • Data cloud capacities and sustainable processors
  • Education and training to support digital skills

Some industries should benefit from that spending program, particularly the capital goods, construction, automotive, and utilities focusing on renewables. The digital transformation objective should drive some IT services and telecommunications companies, especially the ones exposed to 5G, rural connectivity, digitalization/modernization, e-heath, smart cities, and connected education.

We believe that the EU Recovery Fund will be supportive for the European equity market. This, combined with an acceleration of the vaccination campaign, could explain some of the recent catch up of EU equities. Let’s hope that the funds will be used in full and spent wisely over the next few years.

Global Alpha Capital Management Ltd.
June 24th, 2021