Non-U.S. Opportunities are Growing
As well as maintaining a bullish outlook for U.S. equities,
we’re identifying significant opportunities outside
of the United States, supported by more attractive
valuations, increasingly accommodative monetary policy
and economic fundamentals that have strengthened
or surprised to the upside. From a regional standpoint,
we are most constructive on Europe and Japan, while
maintaining a more select approach to emerging markets.
Europe. Europe’s equity market is trading at a slight
discount to the U.S. on a multiple basis, but earnings and
revenue growth for companies in Europe are expected
to exceed that of U.S. companies (Figure 10). Although
the U.S. economy remains stronger in absolute terms,
expectations have been lower for Europe and we have
lately seen a string of positive surprises (Figure 11), which
have contributed to improved sentiment about the region.
Although Europe has performed well year to date
(Figure 12), we don’t believe the market is overheating.In our view, the most significant catalyst is the massive quantitative easing implemented by the European Central Bank, which has pushed rates lower and weakened the euro. While we remain cautious of QE’s ability to jumpstart the economy without increased structural reforms, we believe QE creates a reflationary catalyst for select businesses benefiting from policy decisions. We were positioned ahead of QE, and continue to find investable opportunities among exporters, multinationals, reflationary plays, and higher dividend yield companies.
FIGURE 10. NON-U.S. MARKETS: ATTRACTIVE VALUATIONS AND POSITIVE REVISIONS
FIGURE 11. SUPRISES ON THE UPSIDE FROM EU, JAPAN
FIGURE 12. GLOBAL EQUITIES SHOW MOMENTUM
Past performance is no guarantee of future results. Source: Bloomberg.
FIGURE 13. JAPAN: STRUCTURAL REFORMS PROVIDE A CATALYST FOR
Source:. J.P. Morgan, “Japan Equity Strategy,” February 3, 2015, using data from Bloomberg and J.P. Morgan.
Japan. Japan is benefiting from similarly accommodative monetary policy and sentiment has improved after the Bank of Japan surprised markets with the aggressiveness of its most recent stimulus. On the basis of P/E ratios, valuations in Japan are even cheaper than in Europe, with expectations for stronger earnings and revenue growth over the next two years. Economic data has been mixed to stable, but we are seeing individual companies surprise with improved capital allocation and more shareholder-friendly policies. As we discussed in a recent blog, the introduction of the Nikkei 400 Index has encouraged companies to improve return on equity (a requirement for inclusion in the index). We’ve seen an increase in stock buybacks (Figure 13), dividend increases, and capital expenditures. Against this backdrop, we believe Japan’s market can advance further, although a bottom-up approach remains paramount.
Emerging Markets. While we maintain high conviction in the long-term secular growth themes related to emerging markets, we are taking a selective approach to emerging economies in this environment. Economic growth remains challenged in a number of countries, with quality companies (that is, those with strong balance sheets and sustainable growth) harder to come by. We expect a divergence in the near-term prospects of emerging market economies, due to declining commodity prices and different structural reform trajectories. We have favored commodity consumers as commodity prices have fallen, in turn reducing inflationary pressure and providing room for some countries to implement accommodative monetary policy.
We remain positive on India and China. Falling energy prices have allowed the Reserve Bank of India to become more accommodative, while Prime Minister Modi has engendered optimism around economic reforms. In regard to China, recent policy changes have had an impact on both volatility and returns in the equity markets, but we believe many companies can benefit from reform initiatives as well as from the country’s growth potential. Still, we remain disciplined on valuations, given the appreciation in the market as a whole and the volatility over recent years.
Our team continues to identify investments in the Philippines, one of the faster growing emerging markets even prior to the economic tailwind of falling commodity prices. Valuations are more full relative to some other emerging markets, but we are finding bottom-up opportunities that we believe are positioned to benefit from the Philippines’ economic growth potential.
While we still find many companies that meet our criteria within Mexico, we are becoming more cautious as we move through the current election cycle. While structural reforms and ties to the U.S. economy have provided tailwinds, we are mindful that the recent fall in oil prices may create budget pressures that will impact the consumer in 2016.