The Spanish stock market is breaking all records. Its principal index, the Ibex 35, has been the best performer among the main international indicators, and the stock exchanges are confident that the year will end as a success. However, this flood of good news has aroused a reaction from some prophets of doom who, afraid that the ceiling has been reached, are beginning to recommend caution to investors and are even beginning to get out of the stock market and channel their savings towards other types of investment.
These warnings should come as no surprise, especially when one takes into account that the Ibex 35 has beaten its own records on several occasions, breaking the 13,700-point barrier and showing a rise of over 28% this year so far. Not since the heyday of the technology bubble has the stock market been so effervescent. However, even that prosperous era pales in comparison with events this year.
In barely nine months, up to September, the Spanish stock market has handled 22 takeover bids, moving over 100,361 million euros ($128 million), according to data published by the Spanish media. This figure is equivalent to 10.8% of Spain’s forecasted GDP for this year. And the ball can keep rolling if controversial operations — such as E.On’s bid for Endesa — keep pushing up electricity stocks or if operations in the construction sector continue their frenzied pace. In addition to the figures above, there have been a dozen public stock offerings by medium-sized Spanish companies, mainly related to the construction sector.
Where is all this activity coming from? Juan Mascareñas, professor at the Complutense University of Madrid and an expert on mergers and acquisitions, points to various factors: “Certain buyers, such as the construction companies, have large amounts of ready money, or at least cheap access to it, given that interest rates are relatively low. Also, future changes in Spanish and/or EU legislation relating to takeovers is a phenomenon which particularly affects the operations we are seeing these days in the electricity sector and drives companies to buy now as they can gain control of a company more cheaply. There are also defensive motives, basically to avoid other bidders appearing on the scene.”
These comments are in line with the opinions of Mauro Guillén, a professor at Wharton. He agrees that there are several factors explaining what is happening. “Low interest rates, healthy corporate profits, processes of industry concentration, takeover bids…. The Spanish economy is still growing and foreign institutional investors are highly interested in increasing their presence in Spain.”
The Spanish stock market is considered a small player in the major league, in that it is far less important than the main European exchanges such as London, Frankfurt, Paris or Milan. However, the weight that Spansh companies are acquiring on the international scene is attracting increasing attention from foreign institutional investors, in large part as a result of the major operations that some Spanish companies are undertaking.
For example, this year Ferrovial bought one of the jewels of the British Crown, the airport giant BAA, which owns Heathrow, Gatwick and Stansted, among others. From now on, any trials, tribulations or triumphs of the airport group will be reflected solely in the Ibex 35, as BAA has been excluded from the London Stock Exchange. In these types of cases, investors’ attention has turned from London to Madrid.
In addition, Telefónica has taken over the British operator O2; Santander has bought Abbey; Abertis is putting the final touches on its takeover of Italy’s Autostrade; Metrovacesa has swallowed France’s Gecina — and more may be on the way. This provides a good reason for foreign institutions’ interest in Spain, a market which has provided these investors with a new platform on which their portfolios can be assembled.
“Institutional investors seek a favorable risk-adjusted return,” says Guillén. “Moreover, they want to diversify. The capitalization of the Madrid Stock Exchange has risen dramatically as a consequence of the large growth of Spanish multinational firms. It’s no surprise that the most symbolic operations (Abbey, BAA, Autostrade, O2) have made institutional investors, who have taken note of the strength of Spanish companies, rethink” their positions.”
Mascareñas’ reading is very different. “It’s more a case of Spanish companies going shopping abroad. First they went to Latin America to gain size, and now that they have it, they are turning to Europe. In doing so, they reduce risks (implied by the low correlation between European markets, especially between the British and Spanish markets), gain financial muscle and acquire an international presence which permits them access to cheaper financing in order to continue carrying out projects.”
Reality or Bubble?
The strength that Spoanish companies are showing, combined with the healthy state of the economy, points to a bright future, according to Juan Antonio Maroto, professor at the Complutense University of Madrid. At the same time, however, he suggests some caution. In his opinion, the stock market remains attractive but one must be careful where he invests. “Rather than get out of the stock markets, investors should mimic the firms’ own strategies and diversify. Getting out without knowing where to go is not exactly a good policy. Questions of ‘when’ and ‘where’ should be based on the evolution of real interest rates,” he argues.
Indeed, Maroto bases a large part of his reasoning on the evolution of the price of money. “As an outside observer, it is probable that the present trend of rising interest rates will have two effects: The financial costs of high indebtedness will rise, reducing companies’ profits; and fixed-income investments will become more attractive for investors. If these assumptions hold, quoted companies will remain solid — except for undiscounted increases in energy prices — but the rising trend in stock prices will be affected.”
Guillén sends an even more optimistic message and strongly advises against getting out of the stock market at this moment. In his opinion, many opportunities remain. “It’s not the moment to cash out. Money should still be put into the stock market”, he states. “As long as interest rates remain relatively low and GDP is growing, the rising trend will continue. It’s also important to be aware of Spanish companies getting into problems in the international field.”
Moreover, the good omens pointed to by the experts are not limited to the Spanish market. Things are also looking bright for the other large exchanges. For at least the next few years, it does not seem that there is going to be another bubble.
Mascareñas, for the moment, sees no danger signs. “The stock market is behaving normally. Undoubtedly, the next bubble will come, but it’s early days yet. There is usually a space of 15 to 20 years between two bubbles, which, according to [John Kenneth] Galbraith, seems to be how long collective financial memory lasts. And the bubble will be caused by some area of business becoming fashionable, as happened with biotech in the 1980s, the dotcoms in the 1990s, etc. Will it be the companies dedicated to hydrogen as an energy source? Or the nanotechnology companies? That remains to be seen, but the bubble will come,” he says.
As in Spain, all the large European stock markets are on the rise due to rumors of takeovers of companies quoted on their markets. Banks and energy companies are the main targets of investors, who, at the whisper of a rumor, rush to give instructions to buy. These reactions are partly a response to the major operations undertaken by these companies. For example, according to the Power Deals 2005 study, mergers and acquisitions in the energy sector moved $196 million last year, compared to $123 million in 2004.
However, it also has to be admitted that the stock exchanges are plagued with rumors, which has led to fears that markets will heat up, as happened five years ago with the technology bubble. Even if this were to be case, Maroto rules out the possibility of an immiment crash. Moreover, he suggests that it would take time to detect: “If we are going through another boom, we won’t know about it for another few trimesters.”
Guillén does not see a bubble in the Spanish stock market but is cautious in relation to other markets. Even so, he sees things in a positive light. “The international panorama is more delicate. We have to see how the relationship between the U.S. and China evolves and whether or not the the oil market gives us some nasty surprises. In general, I’m optimistic.”