Value trade is just getting started beyond the US stock market

For all the dominance of mega-cap growth names, US stocks led the world during the cyclical upswing in the first half of the year - and that means other regions are now primed for a catch-up

As Wall Street ponders the longevity of the value trade after a miserable few weeks of performance in the US, outside of the country it could be just getting started.
 

For all the dominance of megacap growth names, American stocks led the world during the cyclical upswing in the first half of the year -- and that means other regions are now primed for a catch-up.
 

Take Europe. With a far more economically sensitive equity market, a vaccine roll-out finally closing the gap to the US and business activity gathering speed, firms from Lombard Odier to BlackRock Inc. are recommending investors boost their exposure to the region.
 

“The post-pandemic growth relay has shifted,” Luca Paolini, chief strategist at Pictet Asset Management, wrote in a note. “From China to the US and now to the euro zone.”
 

With global stocks stabilizing on Friday following a slump, the Stoxx Europe 600 Index jumped 1% at 9:57 a.m. in New York compared with the S&P 500’s 0.7% gain.
 

That’s a contrast to the year so far. The US benchmark gained 15% in 2021 through Thursday, while its European peer climbed about 13%. At the same time, a US index of value shares outpaced a rest-of-world gauge by more than 6 percentage points, according to MSCI Inc. indexes.
 

It all means European shares look cheap. Members of the Stoxx 600 trade at less than 17-times expected earnings versus 21-times for stocks in the S&P 500. In the UK it’s even more dramatic -- FTSE 100 Index companies trade at an average of 13-times the coming year’s earnings.

“Euro zone and UK equities still trade at relatively cheap multiples, despite their exposures to both the global recovery and the reflation themes,” Stephane Monier, chief investment officer at Lombard Odier, wrote in a note. “These are where we see the greatest likely benefits from economic re-openings, an acceleration in relative earnings momentum as well as attractive valuations.”

And while European equity funds drew $16 billion last quarter, the strongest flows in four years, they stand to gain even more given $230 billion of outflows over the last three years, Sanford C. Bernstein strategists pointed out in a Friday note.

It helps that the region’s economic growth is also likely to accelerate -- European Union officials markedly raised their outlook for the euro-area economy this week.
 

“We see a sizeable pickup in activity helped by accelerating vaccinations,” BlackRock Investment Institute strategists wrote in their mid-year outlook this week, as they shifted to overweight on European shares and to neutral on US equities. “Valuations remain attractive relative to history and investor inflows into the region are only just starting to pick up.”
 

Of course, the bull case depends on a conviction that economic momentum is only poised to accelerate. There remain fears that new Covid variants can set back the global recovery, which in any case may be constrained by labor shortages and supply bottlenecks -- both legacies of the pandemic.
 

Concerns about growth momentum are part of what has stalled the reflation trade in the US
 

Treasury yields sunk to a four-month low this week, and a long-short value strategy is down again in July after sliding the most since January 2020 last month. Giant growth shares like Amazon.com Inc. and Apple Inc. -- the kind Europe doesn’t have -- have been back in the ascendancy.
 

At Citigroup Inc., strategists say it might be too soon to worry.
 

“Strong EPS momentum should provide further support for global equities in 2H21, but monetary tightening will loom larger into 2022,” strategists including Robert Buckland and Beata Manthey wrote in a note. “The UK remains our favorite value trade.”