GERMAN shares and the euro dipped last week after elections in the continent’s largest economy ended in a political stalemate.

Investors were disappointed that the business-friendly leader of the Christian Democratic Union (CDU) party, Angela Merkel, failed to clinch a conclusive victory over Gerhard Schröder’s Social Democrats.

The CDU won just 225 seats — or a 35.2% share of the vote — only marginally ahead of Schröder’s 222 seats, or 34.2% share. Parties need 307 seats for a parliamentary majority and they will now embark on weeks of negotiations to set up a ruling coalition. They have until October 18 to come to an agreement.

Germany therefore faces weeks of political instability, but investors are being urged to keep faith with their European funds. Some fund managers even claimed that market weakness could be a buying opportunity.

Ronan Carr, an analyst at Morgan Stanley, the investment bank, said: “Political-led reforms are not central to the buy case for German equities. Our view was that any acceleration in reforms under Merkel would have been the icing on the cake, but a tasty cake remains nevertheless — shares are cheap and reform is widespread at company level.

“Any short-term sell-off in Germany is therefore a buying opportunity on a 12-month view.”

Investors should nevertheless prepare for a rocky ride. Standard & Poor’s, the rating agency, has indicated that the political crisis could threaten Germany’s creditworthiness unless it is swiftly resolved.

Alex Darwall, manager of the Jupiter European fund, said: “While short-term market reaction has been unsurprisingly negative, the bigger impact will be in the medium term if, as seems likely, the hung parliament cannot agree on a programme of revitalising reforms to address Germany’s inflexible labour market.”

Others think that politicians will still drive economic reforms in the longer term, despite the current paralysis.

David Jane, head of equity investment at M&G, the fund manager, said: “Both the main parties share the goal of finding a cure for Germany’s long-standing economic problems and we believe reform is inevitable in the longer term.”

Analysts also argue that improvements by the country’s business community will support continued economic recovery even if government-led reform stalls.

Many German companies, their hands strengthened by increasing competition from the Far East and eastern Europe, have successfully implemented ruthless cost-cutting programmes, which have boosted profits. In June last year, for example, 4,000 Siemens workers agreed to work 40 hours a week, up from 35, for the same money, to prevent production moving to Hungary. The company also announced 2,500 redundancies last week — bad news for the workers, but good news for investors.

Gerard Lane, an investment strategist at Norwich Union, the insurer, said: “The unions are being largely supportive of corporate reforms because they would rather their members had jobs at the end of the day. The share of the economy going towards labour costs is therefore falling, boosting company profits. We think this is likely to continue.”

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