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McCall’s Call: Finding The Value In Europe

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The situation in Europe continues to be the Achilles’ heel of every long-term investor’s plan. The Europe Top 100 Index is down 18 percent in 2011 as its counterpart, the S'P 500, is registering a modest loss of only 7 percent.

Matthew D. McCall

Since that time, the SPDR S'P 500 ETF (NYSEArca:SPY) is up 4.9
percent through the end of the quarter, including dividends. Many
investors may find it hard to fathom that stocks are up over the
last 13 months, but, until the third quarter, they were performing
quite well.

The numbers are ugly in Europe so far, but the biggest news may not yet be priced into the market. Markets are cautiously optimistic that policymakers will do what’s necessary to avoid a Greek default following the IMF meeting in Washington, D.C., but a default is definitely still a possibility.

And, it’s important to remember that while Greece may be a minuscule part of the world or even the eurozone, a default there would definitely ripple through the global economy.till, there’s value out there for ETF investors at this time of great uncertainty, as countries in Europe such as Austria, Norway and the United Kingdom with relatively solid underlying fundamentals get dragged down by the eurozone’s problems.

Greece And Beyond

The majority of analysts I speak with don’t believe a Greece default is priced into the European or U.S. stock markets. I don’t exactly agree.

I do agree that a Greek default would, no doubt, rock equities in the short term. But the nearly 20 percent fall in the European market this year is due in part to a potential Greek collapse.

In other words, I think a Greek default is almost entirely priced in, meaning now could be a good time to go searching for bargains in European equities.

Year-to-date, the declines for equities in Western European countries typically range from 10 to 30 percent.

The U.K., as I suggested, has held up the best of the group, in part because, while it is technically part of the European Union, it chose more than 15 years ago not to adopt the euro. The iShares United Kingdom ETF (NYSEArca:EWU) is down 12 percent in 2011.

The hardest hit Western European single-country ETF is the iShares MSCI Austria Investable Market Index Fund (NYSEArca:EWO), which has fallen 31 percent in 2011—a function of its ties to Greece and some Eastern European nations.

Finding Value Around Europe

EWO hit a new 52-week low in September. Overall, the drop in the price of the ETF has brought its price/earnings ratio down to 9.4, a level that is quickly becoming attractive.

What’s more, there are other countries in Europe that have fallen so much that their valuations, too, are at levels that are becoming difficult to ignore.

By now, we all know that Spain, too, is struggling to manage an onerous debt load and high unemployment. That explains the P/E ratio of 7.5 percent of the iShares MSCI Spain Index Fund (NYSEArca:EWP). Still, the ETF has held up surprisingly well in 2011, falling just 11 percent.

Another country that looks like it could be the best bargain in Europe is Norway, with a P/E ratio of 7.8.

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The Global X FTSE Norway ETF (NYSEArca:NORW) is down 23 percent in 2011. It’s surprising to see NORW underperform, considering 40 percent of the ETF is in the energy sector.

Perhaps that has something to do with the 24 percent of NORW that’s focused on financials, though Norwegian banks can’t be compared with many of the large European banks at the center of this crisis, particularly those in France.

Looking out a few years, I see NORW as a potentially big winner with less risk than its European peers. Entering a half position in NORW below $12.50/share would be my first move, followed by another purchase a few months later.

The Value Trap

As someone wise once said:“Stocks are cheap, but they can always get cheaper.” This old adage applies to the current situation in Europe. Based on even modest growth estimates for the coming years, most Western European countries are trading at attractive valuations.

I look at this potential opportunity in two ways. One is that, realistically, you’ll never buy at the bottom; therefore, starting to build positions is a good strategy. I like to refer to this as finding the “sweet spot” when entering a new investment.

The other view is that stocks could get cheaper, and possibly much cheaper, if the contagion spreads and the market plumbs new lows before finding a bottom.

There’s also the possibility that future growth will end up coming in much lower than current expectations. If you’re in this camp, you may want to hold back from buying until valuations get even cheaper.

Whatever you decide to do, realize these are long-term plays, so don’t make decisions based on short-term factors.

Matthew D. McCall is editor of The ETF Bulletin andpresident of Penn Financial Group LLC, a New York-based wealth management firm specializing in investment strategies using ETFs.

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.


The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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