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Is It Time to Consider European Equities?

Domestic equities have significantly outpaced their international counterparts for the past four years. For those who haven’t regularly revisited their asset allocations, this otherwise welcome trend in U.S. markets may have left them underexposed to equities from abroad (see “Dangerous drift,” below).

Given the breadth and depth of international markets, where’s an investor looking to shift money out of the U.S. stock market to turn?

Old World values

Over the past 10 years, eurozone stocks have returned a compound annual growth rate of just 1.3%, underperforming every other region except Japan.1 However, there’s reason to believe that the headlines concerning the eurozone might be worse than the reality on the ground for four reasons:

  • Last year’s 2.4% increase in gross domestic product (GDP)2 was the strongest rate of expansion since 2007. True, stocks pulled back when growth took a step back earlier this year, but the causes—bad weather and a supply chain stretched to the breaking point—appeared to be temporary.
  • If core inflation (excluding energy and food) remains muted, the European Central Bank is not expected to raise interest rates until the second half of 2019—meaning businesses and consumers will continue to benefit from low borrowing costs. Fresh fiscal stimulus may also be in the offing: Several major European countries have instituted or are considering tax cuts.3
  • Key victories for more-moderate establishment candidates have slowed if not reversed the populist trend on the continent. French voters overwhelmingly voted for Emmanuel Macron over staunch nationalist Marine Le Pen in the country’s presidential election in 2017, and German voters handed Angela Merkel a fourth term as chancellor earlier this year. What’s more, European Union leaders recently reached consensus on migration,4 taking some of the steam out of an issue that has threatened to undermine the economic bloc.
  • While many are rightfully concerned about a full-blown trade war between the U.S. and its major trading partners, the talks haven’t yet translated into binding trade policies. And although companies in both markets garner 16% to 17% of their revenues from the other, the vast majority of trade that occurs in the region is among those within the economic bloc.

 

Proceed with caution

There are still longer-term trends that investors should watch to keep from going overboard on eurozone equities—including low to no growth in the workforce and a steady reliance on slow-growth industries, such as materials and telecommunications.

That said, those looking to rebalance their portfolios could benefit from the eurozone’s more-positive trends by reinvesting some of their U.S. gains in European equities.

 

1MSCI EMU Index, based on total return in U.S. dollars as of 12/31/2017.

2Eurostat.

3Bloomberg.com and ft.com.

4Steven Erlanger and Katrin Bennhold, “E.U. Reaches Deal on Migration at Summit, but Details Sketchy,” nytimes.com, 06/28/2018.

What You Can Do Next

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International investments involve additional risks, which include differences in financial accounting standards, currency fluctuations, geopolitical risk, foreign taxes and regulations, and the potential for illiquid markets. Investing in emerging markets may accentuate these risks.

The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The investment strategies mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision.

All expressions of opinion are subject to change without notice in reaction to shifting market conditions. Data contained herein from third-party providers is obtained from what are considered reliable sources. However, its accuracy, completeness or reliability cannot be guaranteed.

Examples provided are for illustrative purposes only and not intended to be reflective of results you can expect to achieve.

Diversification and rebalancing strategies do not ensure a profit and do not protect against losses in declining markets. Rebalancing may cause investors to incur transaction costs and, when rebalancing a non-retirement account, taxable events may be created that may affect your tax liability.

Investing involves risks, including possible loss of principal.

The Schwab Center for Financial Research is a division of Charles Schwab & Co., Inc.

Indexes are unmanaged, do not incur management fees, costs and expenses, and cannot be invested in directly.

The MSCI USA Index is designed to measure the performance of the large- and mid-cap segments of the U.S. market. With 626 constituents, the index covers approximately 85% of the free float-adjusted market capitalization in the US.

The MSCI EAFE Index is captures large- and mid-cap representation across developed markets countries around the world, excluding the U.S. and Canada. With 926 constituents, the index covers approximately 85% of the free float-adjusted market capitalization in each country.

The MSCI EMU Index captures large- and mid-cap representation across the 10 developed-market countries in the Economic and Monetary Union of the European Union (EMU). With 249 constituents, the index covers approximately 85% of the free float-adjusted market capitalization of the EMU.

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