This summer, for the first time in three summers, investors
did not have to contend with a eurozone financial crisis.
While the continent's problems remain far from solved, a year
after European Central Bank (ECB) President Mario Draghi pledged
to do "
whatever it takes
" to save the euro, the eurozone
appears to be on more stable footing
As such, many investors are asking: "Is it time to reconsider
European equities?" My answer: a qualified yes. While I'm not
advocating that those already overweight
add more exposure to the region, I do believe that European
should no longer be excluded from portfolios
. Here are three reasons why:
Europe's economy is stabilizing.
After six-consecutive quarters of contraction, Europe
grew a better-than-expected 0.3%
in the second quarter. While still weak, the economy -
particularly around the core countries -
Eurozone equities are cheap relative to US
Eurozone stocks currently trade for less than 1.30x
. This is a 25% discount to their long-term average valuation
and nearly a 50% discount to the book value of US stocks. The
eurozone market typically trades at a discount to the US market
due to its lower profitability and larger allocation to
financials, which tend to trade at lower multiples than other
sectors. However, the current discount looks excessive.
There's less risk that the euro will be
A year ago investors were reasonably concerned that the single
currency may not survive. But last year's actions by the ECB,
coupled with some modest reforms in peripheral European
countries, significantly lowered the risk of dissolution.
To be sure, while Europe looks better than a year ago, there
few important caveats
that are keeping my "yes" answer a qualified one. First, the job
of integrating Europe's fragmented banking system remains a work
in progress. Until we see further evidence of banking
integration, which is unlikely until after
the important German federal election next month
, a weak and fragmented banking system
will remain Europe's Achilles heel
Second, many of
the southern European countries still need to make more
in implementing structural reforms. Without further labor market
reforms and deregulation in Greece, Portugal, Spain, Italy, and
arguably France, European growth will remain anemic at best.
Finally, getting these reforms through will be complicated by
political instability and voter fatigue with austerity.
However, even with these risks, improving growth and cheap
valuations suggest investors want some exposure to eurozone
equities. Investors significantly overweight the United States
and underweight Europe may now want to consider trimming some US
exposure and reallocating it to international markets like the