Listen, “cheap” is an exceedingly relative term these days.
Everything – or most everything – is rich. And if you confine your search for value to equities and corporate credit, it would be nearly impossible to find anything that is objectively “cheap.”
Where in the World Is the Most Attractive Market?
To some extent, equity investors are faced with a difficult environment today. Sure, stocks have fared fantastically well, so even if you’ve missed your benchmark bogey chances are you’ve made a solid nominal return — wherever you invest. Yet according to some metrics valuations are looking stretched, which makes it difficult to find good stocks (or stock markets) at attractive prices.
While the United States has enjoyed a fine earnings season so far…
…in truth the market does not look particularly attractive compared to international peers.
- If you’re used to eating chicken that costs $5/kg, it’s only natural to look for alternatives if the price rises to $10/kg. The problem is that if beef and pork rise from $10/kg to $50/kg, chicken still looks like the best value. This is the conundrum confronting equity investors, where stocks may look expensive — but nowhere near as expensive as bonds.
- To extend the analogy, it often makes sense to look at a different shop altogether to see if there is a cheaper way to put dinner on the table. In investing terms, that means looking outside one’s home market for opportunities elsewhere. That’s not exactly a breathtaking revelation; after all, emerging-market stocks have been one of the investment darlings of 2017 — and rightly so.
- However, while we tend to view “emerging markets” as some sort of monolithic asset class, the reality is that there is a very big difference between Taiwan and South Africa, between Indonesia and Brazil. What if we disaggregate further?
- Consider a simple scorecard using a number of macro factor inputs, including the 3 month risk-adjusted return, the trailing PE, expected 1y earnings growth, the earnings yield less 5 year swap rates, the dividend yield, and the dividend yield minus five year swap rates. We can then assess the MSCI universe according to these factors.
- In doing so, a number of interesting conclusions jump out. European stocks generally come out pretty well, taking four of the top six slots, including top-placed Spain. So do “developed” east Asian markets, which ties in with the outperformance of technology shares this year.
- However, emerging markets also occupy five of the six bottom slots on the scorecard, including high-flying India, which looks expensive. The other member of the bottom six? The United States, justifying the visceral feeling in some quarters that the American market is expensive.
- There is no guarantee that the “cheapest” markets on the board will outperform, of course. One could easily argue that European stocks, for example, are already over-owned and vulnerable to the strength of the euro. Yet this analysis does suggest that U.S. investors at least would do well to leave aside their home bias and consider other markets — for reasons that have absolutely nothing to do with either Janet Yellen or Donald Trump.