RISK-TAKING may be staging a comeback overseas.
While equities around the world soared last year, the stock market rebound abroad was decidedly different from the one that sent the Standard & Poor’s 500-stock index up 16 percent in 2012.
In the United States, the most economically sensitive stocks, like shares of banks and other financial businesses, posted the biggest gains as investors grew confident that an economic recovery was at hand. Overseas, by contrast, it was the defensive-oriented shares like health care and consumer staples stocks that performed the best for most of the year.
What’s more, investors favored stocks in the developed world over riskier but faster-growing emerging markets equities.
This is not all that surprising. “The economic situation abroad in the last 12 to 18 months has either been worse or has slowed more dramatically than in the U.S., creating an even bigger ‘risk off’ mind-set in those markets,” said James W. Paulsen, chief investment strategist at Wells Capital Management.
Yet Mr. Paulsen believes that investors’ appetite for risk-taking overseas is likely to improve. In fact, that process may have already begun.
Among the early signs are that economically cyclical sectors, like financial stocks in the MSCI EAFE index of foreign equities, have been outperforming defensive areas like health care and consumer staples since December.
Part of this can be attributed to the growing clarity about the state of the global economy, money managers say. It is not so much that the economy is booming, but that some of the greatest potential dangers seem to have receded.
Most prominently, concerns about a euro zone breakup have abated since Mario Draghi, president of the European Central Bank, declared that the bank would do “whatever it takes” to save the euro. Ever since that announcement, in late July, European equities have been in rally mode.
“In the international markets, you saw the removal of major tail risks last year, particularly in Europe,” said Jason A. White, a portfolio specialist at T. Rowe Price.
Meanwhile, fears over China’s slowdown seemed to subside at the end of last year on signs that the world’s second largest economy was finally beginning to re-accelerate. In November, government data showed that industrial output and retail sales in China grew much faster than expected, bolstering the bullish case for Chinese and emerging-market stocks. Since then, the Shanghai Stock Exchange Composite Index has soared nearly 20 percent.
The improving global economy, though, isn’t the only reason risk-taking may be re-emerging.
Money managers note that fear over Europe’s debt crisis has been driving investors into defensive-oriented stocks overseas for several years. This is particularly true for shares of consumer companies that manufacture staples like food and household products that continue to be in demand regardless of the health of the economy.
“In an environment where returns for the equity markets were quite poor, you saw very decent returns in those staples,” said Harry Hartford, president of Causeway Capital Management. As a result, though, “consumer staples outside the U.S. looks pretty fully priced,” he said.
Take Diageo. Shares of the British spirits maker, which has sales in about 180 countries, have climbed more than 26 percent a year for the last three years. That means Diageo shares now trade at a price/earnings ratio of more than 18, based on forecast profits. By comparison, the average P/E for MSCI EAFE stocks is less than 14.
Unilever, the packaged food and household goods company, is another example. In 2008, amid the global financial crisis, the stock was trading at around 11 times earnings. Today, Unilever’s P/E ratio stands at 17 times earnings.
“A lot of the defensive industries had big runs, so valuations got extended,” said W. George Greig, head of international investing for the asset manager William Blair & Company. As a consequence, he said, “some investors are starting to say that the defensive stocks aren’t as defensive as they thought.”
NOT all money managers are convinced that the worst of the economic storm is behind us. “We know that after a financial crisis, it takes a long time to recover,” said Simon Hallett, chief investment officer for the asset manager Harding Loevner. “We think a conservative approach is still appropriate — there are still an awful lot of things that can go wrong.”
Mr. Greig said investors were not seeking economically sensitive stocks out of a newfound sense of euphoria. “This is not a venturesome ‘risk on’ mind-set,” he said. Rather, investors are reluctantly seeking out cyclically oriented stocks because their valuations are so low that they now look compelling, and there may be better values in areas that had been considered riskier.
Fundamentally: Investors Rediscover Risk-Taking Abroad
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Fundamentally: Investors Rediscover Risk-Taking Abroad
