Spanish stock market rally: which stocks are driving the surge?

The Spanish stock market has been on a steady upward trend since November of last year, reaching new heights by late March, with the index surpassing 11,100 points, marking its highest level in the past seven years. Despite experiencing some corrections in recent weeks, it maintains a significantly elevated position compared to historical norms. What’s fueling this surge? Positive economic outlook, high interest rates favoring financial stocks, and strong performance from the market’s largest capitalized companies.

“The thing about the IBEX 35 is that it is a heavily concentrated index, with four stocks making up over 51% of its weight: Inditex, BBVA, Santander, and Iberdrola. It's not very representative of the Spanish stock market as such,” explains Javier Miralles, Manager at MAPFRE AM, noting that markets have heavily favored large-cap companies over smaller ones.

While the index has seen a year-to-date increase of roughly 6%, Miralles suggests that if all companies were equally weighted, this rise would be curtailed to 2%. “It’s due to the strong performance of the large-cap companies, while the mid- and small-cap companies haven’t done as well. There’s a significant divergence between companies trading at very high multiples and others that are much cheaper,” he points out.

Banks, in particular, have performed exceptionally well, with gains of around 22% for BBVA and 18% for Banco Santander. “All banks have done very well. The expectation of prolonged high interest rates, coupled with positive economic growth, creates a very favorable scenario for these companies. Moreover, the IBEX 35 is heavily weighted towards banking: banks make up around 30% of the index,” Miralles adds.

Conversely, non-bank and smaller stocks have experienced lackluster performance, with utilities being notably affected by high interest rates. A potential interest rate cut by the European Central Bank (ECB) in June could possibly provide relief to this sector, as well as to real estate, which has fared much worse recently due to the “steep rate hikes” of the past few months. In any case, the most important thing, according to Miralles, are the company’s fundamentals.

“Highly demanding” multiples

Following the rally of the last few months, IBEX 35 companies are trading at “demanding multiples”. “It's been quite a while since we’ve witnessed banks trading above one times their book value (price-to-book ratio), practically since the financial crisis. What’s driving those multiples? Positive results and outlook for businesses,” he remarks.

Inditex, the index’s most capitalized entity, has seen an 11% increase this year alone, with its price–earnings ratio (PER, which measures a company’s share price relative to its earnings) reaching 23 times, surpassing its historical average.

Nonetheless, the manager cautions that any setbacks in growth projections or shifts in interest rates “could trigger significant corrections to these remarkable gains.”

“We find greater comfort in other assets that are either undervalued or not trading at such demanding multiples. We have companies trading at three times EBITDA, offering ridiculously low valuations. These are companies that are yielding double-digit cash flow returns. There is a considerable inefficiency there, primarily due to a lack of liquidity: there’s been little interest in these types of companies,” he adds.

This inefficiency and the lack of interest in smaller companies are presenting great opportunities for investors. “Easy money gravitates towards volume and liquidity, neglecting what’s less liquid and low-cap. We capitalize on this situation, albeit sometimes the results take time to materialize,” he notes.

Dividends, the “darling” of the Spanish stock market

The Spanish stock market is celebrated for its dividend payouts to shareholders, representing the portion of profits that companies choose to distribute as remuneration. Collecting dividends helps boost the return on the initial investment, coupled with the rise in share prices in the markets.

At the close of October 2023, the dividend yield on the IBEX 35 stood at 4.1%, according to the BME Market Report. In MAPFRE's case, the yield increased to 7.7%.