NEW YORK, Jan 13 (Reuters) – Some U.S. investors are looking abroad for better equity returns in the coming months, betting that European and other international stocks will have more attractive valuations after a long period of U.S. dominance.
US stocks rose again to start the year after a rough 2022, but still lagged international peers. Europe’s STOXX 600 index (.STOXX) has gained about 17% since the end of the third quarter, compared with 11% for the U.S. benchmark S&P 500. MSCI’s index of global shares excluding the U.S. rose more than 20% during that time.
European stocks benefited as a mild winter helped the region stave off a feared energy crisis, investors said. Commodity price adjustments, the reopening of China’s economy and a weaker dollar helped; some expect the strength to continue.
“Relatively speaking, we now have more money chasing better opportunities outside the US, which has not been the case in the last few years,” said Martin Schulz, head of international equity group Federated Hermes.
Federated Hermes said this week it changed its view on the stock to a “modestly positive” from a “modestly bearish” view, adding entirely to international markets.
US stocks have long dominated their international peers. The S&P 500 has rallied more than 460% from its lows during the great financial crisis in March 2009 to last year, when Europe’s STOXX posted a 170% gain.
That period largely coincided with record low interest rates, favoring U.S. stock indexes weighted more in tech stocks than European stock indexes. The technology sector makes up 26% of the S&P 500. The group makes up only about 7% of the STOXX 600, which is heavily focused on financial and industrial stocks.
But the playing field leveled sharply last year as central banks raised interest rates globally to fight inflation. Higher rates have put pressure on the valuations of tech and other high-growth stocks in particular, potentially benefiting banks and other value stocks that are heavyweights in Europe.
“One of the secular elements that helped US stocks was unconventional monetary policy, and those policies have ended,” said Alessio de Longis, senior portfolio manager at Invesco Investment Solutions in New York.
De Longis shifted more into international stocks last month as it increased the company’s overall equity exposure.
International stocks were recently echoed by investor Jeffrey Gundlach of DoubleLine Capital and BofA Global Research, who predicted that global stocks will “crush” their US peers in 2023.
Even with its recent strength, Europe’s STOXX still trades at a steep discount to a forward price-to-earnings ratio of 12 versus a P/E of about 17 for the S&P 500, according to Refinitiv Datastream. This valuation gap is close to the widest ever and more than double the historical average.
“Every metric you can track from a valuation perspective shows that international stocks are historically cheap relative to the U.S.,” said Brent Schutte, chief investment officer at Northwestern Mutual Wealth Management Company.
Another boost for international stocks came from the recent weakening of the dollar, which has fallen nearly 9% since the end of the third quarter after a big run. A weaker dollar benefits U.S. investors as they convert foreign profits into their currency, and some investors believe the dollar could continue to slide if the Fed appears to be moving closer to halting interest rate hikes.
Some investors think US stocks will soon regain their dominance over stocks linked to other regions. Since 2012, the United States has outperformed the rest of the world’s stocks by an average of 1.7 percentage points in a typical 50-day window, according to Nicholas Colas, co-founder of DataTrek Research.
“As much as we can see the benefits of being undervalued in non-US equity markets, their recent performance suggests investors should be cautious in following the recent rally,” Colas said in a note this week.
A widely expected global recession could be one of the factors sending investors back to U.S. stocks, which many see as a relative safe haven in times of economic uncertainty, investors said.
Mona Mahajan, chief investment strategist at Edward Jones, said buying international stocks could be “complementary” to the domestic opportunity.
“US markets haven’t picked up that much yet and so I think there’s still a major opportunity in the US to catch up a little bit there,” Mahajan said.
Reporting by Lewis Krauskopf; Edited by Ira Iosebashvili and David Gregorio
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