Reports of confidence in German business hitting a high last month spell good news for European smaller companies, according to the manager of the Baring Europe Select Trust Nick Williams.

The IFO Business Climate Report showed the German confidence index rose to 111.2 points for last month, with the lift from 110.3 points in January marking the ninth consecutive month-on-month increase.

Williams said that the continued improvement supports Barings’ belief that European businesses are facing a positive period, and this is particularly true of those in the small cap arena.

“European equities should benefit from the strength of Europe’s largest economy and we believe the greatest investment opportunities lie within small caps as domestic economic conditions strengthen.”

Although there is a general improvement in business sentiment across Western equity markets, Barings believes that a bottom-up stock picking approach better enables investors to benefit from the inefficiencies that exist in European equity markets.

“January saw a widespread bounce in those stocks that underperformed in 2010, accompanied by some short-term volatility, but we remain focused on the careful stock selection approach that has been fundamental to our investment process for many years. We are choosing to invest in companies whose current valuation does not fully reflect the attractions of the underlying growth story. As companies announce their 2010 profits figures and outlooks for 2011, however, more differentiation is expected in price movements.”

Barings remains “cautious” on the outlook for domestic economic growth and unemployment in Southern European economies, but Williams said the size of the investible universe of European smaller companies and the strengthening recovery in Northern and Central Europe means that at the stock level there remain “tremendous opportunities” for investors.

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