Europe's economies -- hence, Europe's markets -- have had a tough go-of-it over the last several years, despite central bankers making historic efforts to revivify the region. The U.S., by comparison, has been a raging success (despite the fact that, for investors at least, the post-financial-crisis U.S. recovery is much untrusted and much unloved).
Let's look at U.S. and European stock performances over several years. The S&P 500 Index returned 12.6 percent annually during the five-year period from January 2011 to December 2015 (including dividends), while the MSCI Europe Index returned just 4.5 percent annually over the same period.
Despite European stocks’ disappointing performance, investors finally seemed willing to bet on brighter days for Europe last year. According to Bloomberg News, investors threw $123 billion at European stocks in 2015 alone.
But since then, European stocks have repaid investors’ courage with more pain. The S&P 500 is up 6.1 percent this year through Monday, while MSCI Europe is down 6.4 percent. Poof! Just like that, courage is now in short supply again. Investors have pulled $22 billion from European stocks since the Brexit referendum on June 23.
Before calling for more courage -- and more emotional and intellectual discipline -- let’s cut investors some slack. There are reasons to prefer U.S. stocks to European stocks. For one, the fundamentals are stronger in the U.S. Yes, profitability has deteriorated both in the U.S. and in Europe, but the comparison ends there.
Europe’s corporate earnings have been suffering longer and harder. Return on common equity for the S&P 500, for example, is down 21 percent from its peak in the fourth quarter of 2013, whereas ROE for MSCI Europe is down 53 percent from its peak in the second quarter of 2011. Also, European companies are half as profitable today as U.S. companies. ROE is currently 12 percent for the S&P 500, whereas ROE for MSCI Europe is only 6.6 percent.
The trend, too, is more a friend of the U.S. than Europe. The S&P 500 is 6.4 percent above its 200-day moving average, whereas MSCI Europe is 1.1 percent below its 200-day moving average. (A market price that is above its multi-day moving average is considered a bullish sign, whereas a price that is below its moving average is considered a bearish sign.)
And with those observations, my sympathies for investors who are abandoning Europe come to an end.
Those same investors should ask themselves whether the U.S. and Europe’s recent fortunes are cyclical or signs of something longer lasting. Sure, there are problems in Europe that could point to continued weakness -- among them seemingly ineffectual stimulus, Brexit, and teetering Italian banks -- but this is where longer-term data can ward off recency bias.
The MSCI Europe Index has had an average ROE of 11.4 percent since 1995 (the longest period for which data is available). In that period, MSCI Europe’s ROE has climbed as high as 19.1 percent and has fallen as low as 2.4 percent. Most importantly, it has returned to its average ROE six times, which is approximately once every four years on average.
Now consider the same stats for the S&P 500, which has had an average ROE of 13 percent since 1990 (the longest period for which data is available). In that period, the S&P 500’s ROE has climbed as high as 18.6 percent and has fallen as low as 2.9 percent. It has returned to its average ROE six times, which is approximately once every four and a half years on average.
By those lights, the U.S. and Europe don’t seem so different after all. There's one crucial difference, however: The U.S. and Europe are at very different points in their respective cycles.
Despite its downward trend, U.S. profitability still hovers near its long-term average -- which implies that U.S. profitability has plenty of room to fall. But Europe’s profitability is nearly half its long-term average -- which implies that most of the financial pain there is in the rear view mirror.
It’s possible, of course, that earnings cycles are things of the past and that the investing climate is truly different this time. Then again, when it comes to markets and investing and a fundamental, data-driven analysis, the more things change the more they stay the same.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
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Nir Kaissar in Washington at firstname.lastname@example.org
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