Soon after taking office, U.S. Treasury Secretary Tim Geithner
made U.S. banks undergo a stress test to see how they would fare in
ever more dire economic scenarios. Almost all U.S. banks passed the
test with flying colors. And as investors breathed a sigh of
relief, they called their brokers to place "buy" orders. From there
ensued one of the greatest
runs in history from the market bottom of March, 2009.
More than a year later, European regulators decided to copy that
move, and sure enough, almost all European banks passed the test as
well. Could a similar rally result in Europe? The answer is a
Nobody can predict or should expect stocks to post the +50%, +100%
and even +200% gains we saw after March of 2009. But this is a
major market hurdle, and these stress tests may be flashing a solid
What it means (and what it doesn't)
The key takeaway from these tests is that European banks aren't
likely to teeter and pull the whole continent into an economic
maelstrom. And as long as investors can assume that the economic
environment will remain generally stable, they'll be emboldened to
seek out bargain-priced stocks. But this doesn't mean that European
economic activity is about to take off. Here in the United States,
even as banks got much healthier, they still kept lending activity
to a minimum. Many U.S. businesses and consumers have had a tough
time borrowing money, and the same will continue to be said of
their peers in Europe.
Just as was the case with the stress tests, the U.S. economy has a
chance of getting back on a solid growth path before Europe does.
U.S. corporate profits have risen sharply in recent quarters and as
corporate cash balances rise, we could see the long-awaited hiring
spree we've all been waiting for. More jobs means more consumer
spending -- always a good thing. In Europe, however, job growth
could remain anemic for some time.
Moving up off the lows
iShares S&P Europe 350 Index (
, investors had already anticipated positive results from last
week's stress tests and started pushing stocks up from their lows
of several weeks earlier. In early July, the
flirted with 25-week lows, hovering around $31, but is now moving
toward the $36 mark. Yet the index remains more than -40% below the
low $60s range seen in 2007 and
ratios of many European blue chips remain well below historical
I remain a fan of blue chips like
I've noted earlier
But I'm even more enamored with Europe's small cap stocks, for one
main reason. Coming out of a recession, stocks of smaller companies
tend to outperform their larger peers, in large part because they
were more heavily sold off going into the downturn. For example,
European Small Company Fund (Nasdaq: ESMAX)
plunged from $35 in early 2008 to $6 in early 2009. More than a
year later, the fund still remains below $10.
In a recent interview with Reuters, JP Morgan's
strategist Eduardo Lecubarri noted that the current environment is
a "once in a lifetime opportunity" for investors to find real value
among small/mid-cap equities, noting that more than 40% of
pan-European small/mid-cap stocks, are still down more than -50%
from their three-year highs and more than half of those stocks
Action to Take -->
Risks still remain in Europe, especially if belt-tightening
measures trigger a fresh recession. But it increasingly looks as if
the deepest fears have been overblown.
You can play a potential rebound in one of four ways:
-- Buy a U.S. multinational like
Procter & Gamble (
Ford Motor (
that have a high degree of exposure to Europe.
-- One of those European blue chips I noted earlier.
like Invesco's European Small Company Fund
-- Or a low-cost
Vanguard European ETF
-- David Sterman
David Sterman has worked as an investment analyst for nearly two
decades. He started his career in equity research at Smith Barney,
culminating in a position as Senior Analyst covering European
banks. David has also served as Director of Research at Individual
Investor and has made numerous media appearances over the years,
primarily on CNBC and Bloomberg TV. David has a master's degree in
management from Georgia Tech. Read More...
Disclosure: Neither David Sterman nor StreetAuthority, LLC hold
positions in any securities mentioned in this article.
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