The Western European equity markets continued to recover during the first two months of the second quarter of the year. The broad market finished April up by +2.4% and by +0.8% in May. June was a challenging month, however, after high oil prices put the market into a freefall once again, recording a loss of -10%. Consumers and businesses alike became increasingly pessimistic about the near-term future of the Euro zone economy, while indicators of economic activity pointed to deterioration.  Sentiment was also against risky assets, as retail investors were net sellers of stocks.
 
Looking into the third quarter of the year, the overall environment has become more challenging for equity markets. Economic growth is slowing down and inflation remains stubbornly high. In addition, profit margins are under pressure from the strong euro exchange rate, high commodity prices and the increase of interest rates. To an extent, however, Western Europe’s equity markets have already priced in the risks of a strong deterioration of the inflationary environment, so the downside risks from the financial market crisis are somewhat limited, even though the full extent of write-downs is still unknown. Against this background, we see limited risks of a further sell-off in European equities, which might further be buoyed by reasonable valuations.