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Friday, December 05, 2014 11:33:03 AM
On Offer: Long-Term Value In European Equities
* December 5, 2014
The five favorite structural valuation metrics of our European strategists – the CAPE, price to peak earnings, price to sales, market cap to GDP, and Tobin’s Q – all give the same reassuring message. European equities are at fair value, or even slightly cheap.
Based on this fair starting valuation, the FTSE100 and Eurostoxx should generate a 10-year nominal return of 10-12% a year, using the very close inverse relationship between the cyclically-adjusted price to earnings multiple (CAPE) and the subsequent 10-year nominal return.
True, since the 1980s, equity market earnings per share have benefited from a structural uptrend in profit margins. Such a tailwind may have added around 1.5% points a year to equity market returns. This boost will not last indefinitely, so a more prudent assumption would be that the 1.5% tailwind becomes a 1.5% headwind, lowering the prospective 10-year return to around 7% a year.
Compared to this conservative 7% prospective annual return from European equities, we know for certain that 10-year government bonds will return 2% in the U.K. and 1.7% in the euro area. Therefore, current valuations are discounting a prospective 10-year equity risk premium (ERP) of 5%.
Estimates vary for what a fair ERP should be, but in the U.K. the realized ERP over the past 40 years is around 3.5%. On this basis, Europe’s 5% equity risk premium appears attractive. It is also much greater than that available in either the U.S. or Japan.
Bottom Line: European equities are priced to generate very respectable 10-year nominal returns.
http://blog.bcaresearch.com/on-offer-long-term-value-in-european-equities
George.
Click on "In reply to", for Authors past commentaries.
* December 5, 2014
The five favorite structural valuation metrics of our European strategists – the CAPE, price to peak earnings, price to sales, market cap to GDP, and Tobin’s Q – all give the same reassuring message. European equities are at fair value, or even slightly cheap.
Based on this fair starting valuation, the FTSE100 and Eurostoxx should generate a 10-year nominal return of 10-12% a year, using the very close inverse relationship between the cyclically-adjusted price to earnings multiple (CAPE) and the subsequent 10-year nominal return.
True, since the 1980s, equity market earnings per share have benefited from a structural uptrend in profit margins. Such a tailwind may have added around 1.5% points a year to equity market returns. This boost will not last indefinitely, so a more prudent assumption would be that the 1.5% tailwind becomes a 1.5% headwind, lowering the prospective 10-year return to around 7% a year.
Compared to this conservative 7% prospective annual return from European equities, we know for certain that 10-year government bonds will return 2% in the U.K. and 1.7% in the euro area. Therefore, current valuations are discounting a prospective 10-year equity risk premium (ERP) of 5%.
Estimates vary for what a fair ERP should be, but in the U.K. the realized ERP over the past 40 years is around 3.5%. On this basis, Europe’s 5% equity risk premium appears attractive. It is also much greater than that available in either the U.S. or Japan.
Bottom Line: European equities are priced to generate very respectable 10-year nominal returns.
http://blog.bcaresearch.com/on-offer-long-term-value-in-european-equities
George.
Click on "In reply to", for Authors past commentaries.
Information posted to this board is not meant to suggest any specific action, but to point out the technical signs that can help our readers make their own specific decisions. Your Due Dilegence is a must!
gtsourdinis
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