European stock markets are enjoying a rejuvenation as strong corporate profit growth has led to a wave of merger & acquisition activity. The MSCI Europe Index gained 10.1% in the first quarter of 2006, after a rising only 6.5% in 2005.
Stock valuations, which generally remain reasonable, may get a further boost as companies increasingly seek to cut costs and restructure. Moreover, as Western Europe economies are behind the business cycle relative to the U.K. and U.S., future profit growth is likely. However, many European economies remain beset by sluggish economic growth, high unemployment, and potential interest rate hikes by the European Central Bank.
Perhaps the very best fund in this sector in recent years, the $456-million AIM European Small Company Fund, invests in small-cap stocks exhibiting high earnings growth; i.e., companies that most U.S. investors probably never heard of. The portfolio currently holds 88 stocks. Its top industries are construction & engineering, 9.8%; industrial machinery, 7.6%; diversified commercial services, 6.1%; and oil & gas equipment & services, 5.4%. In terms of broader sectors, industrials (40.6%) and consumer discretionary (22.6%) account for the lion's share of assets. Reflecting the quirky nature of small-cap companies, the fund's biggest country allocations are in less heralded nations like Netherlands (16.9%) and Norway (16.4%), while France and Germany are less represented.
