The US stock market is always more expensive than other markets. However, America’s premium over Europe is now so high that betting on Europe may be a better option for investors, according to Joost van Leenders, who explained Van Lanschot Kempen’s outlook during a recent interview by Fondsnieuws, Investment Officer Luxembourg’s Dutch-language sister publication.
By betting on US equities rising even further, you will have to reckon with extremely high price/earnings ratios and margins, the strategist said. And even if the growth prospects are good, Van Leenders said he does not see that happening.
Van Lanschot Kempen expects the economy to recover in 2022, followed by lower growth due to demographic changes and low productivity growth. In addition, the bank expects a limited increase in inflation after the recovery, but: the risk is on the upside.
A look at the bank’s expected returns shows that in almost all asset classes they have been revised downwards compared to last year. The bank expects the highest long-term return from emerging market equities (6.3 per cent), the lowest from commodities and core government bonds (both negative).
Regarding the difference between the expected returns on a ten-year basis between Europe (4.7 percent) and America (3.4 percent), Van Leenders said that the price gains of many American shares are far above the long-term average. “With the changing economy and low interest rates, the price-earnings ratio may well be a little higher. But that makes the starting point with which you calculate your expected returns so much higher, so that the negative effect of going back to the historical average is also higher.”
The fact that the American market is in any case more expensive than the European market also has to do with the sector composition: America is home to many tech companies, but also to many growth companies in general. Van Leenders explained: “But the premium of the US compared to Europe is now higher than average. So despite the fact that American shares are “allowed” to be more expensive, they are now very much more expensive.”
Low interest rates
In addition, the equity markets may of course see a further reaction to low interest rates and possible tightening by central banks, although rising interest rates had previously only caused a small ripple.
“Perhaps that was more the fear of high interest rates than a reaction to the actual movement,” said Van Leenders. “In addition, the ripple was very short, also because the figures season soon followed with good results. That helped the markets get over that hump.”
As for the implication of this for investors, the strategist said that you can argue in either of two directions. “Either the risk is not recognised, or equity markets see the risk, but apparently remain in such good spirits that it does not matter. Or demand is simply so high that the markets continue to rise. Of course, you can also see that as a sign of strength.”
Central banks and bonds
The same goes for bond markets to some extent, he continued. “If the big central banks follow the example of Canada and Norway, interest rates may well stay at the same level after all. We do think that there will be some upward pressure on yields with central banks cutting back on support, especially if the Fed does so. We expect that interest rates will still remain low, but the extreme will be taken off a bit.”
Meanwhile, Van Lanschot Kempen said that he expects a further pull into private markets as investors continue to look for places where they can find a stable income stream. The bank is still experiencing increasing demand for the category, with the low to negative yields within government bonds - which traditionally formed the basis of a portfolio with a yield of 4 to 5 per cent.
“The search has shifted from government bonds, via corporate bonds, to illiquid investments,” explained Van Leenders.“Here you can often also find a return of around 5 percent, although that expectation is more difficult to give than for liquid categories. Moreover, these investments may not make up a large part of your portfolio. We are therefore always cautious when dealing with clients.”
The enthusiasm for private markets is also related to the scenario of slightly higher inflation, according to the strategist. “Infrastructure and agricultural land in particular offer protection against inflation. Sometimes the income is even directly linked to inflation, in other cases it moves along reasonably well.”