Domestic equities have been the place to be since the financial crisis ended almost five years ago, but with head winds starting to mount in the United States, investors may be better off on the other side of the Atlantic, said Chris Alderson, president of T. Rowe Price International.
European equities have begun to get hot again recently as the region shows signs of emerging from its year-and-a-half-long recession.
Investors put $5 billion into European equity funds for the one-week period ended Oct. 24, the most ever for a single week, according to Bank of America Merrill Lynch.
Mr. Alderson discussed what is behind the excitement over Europe and which areas internationally look “overblown.”
InvestmentNews: What is driving the increased interest in European equities?
Mr. Alderson: The economics are getting a lot better. The tail risk is off the table. Maybe most importantly, they're a lot cheaper than stocks here in the U.S. European companies' margins are still depressed from the recession, but they're starting to improve and that will drive higher earnings. In the U.S., margins are already at peak levels.
InvestmentNews: In which areas of the eurozone are you seeing the most opportunities?
Mr. Alderson: We've recently moved our focus from luxury exporters, such as Gucci (GUCG) and Ferrari (FERI), to more domestic stocks in Spain and Italy. We've seen significant improvement in those economies. International small-caps could pick up, too. They haven't had anywhere near the rally small-caps have had in the States.
InvestmentNews: What international asset class are you most worried about?
Mr. Alderson: Frontier markets are overblown at the moment. At the beginning of the year, if you told me emerging markets would be down 10% and frontier markets would be up 30%, I'd have thought you were crazy. Over the medium and long term, I think they're a good place to be, but they've been driven up by money coming into frontier markets funds.
InvestmentNews: Are you seeing signs of a turnaround in emerging markets?
Mr. Alderson: They're cheap, but they're not out of the woods yet. They're trading at a significant discount to developed markets. But as interest rates normalize, that's going to put more pressure on the local economies, and growth is declining rapidly.
InvestmentNews: One of the most popular international trades this year has been buying Japanese stocks and hedging out the yen. How do you see that playing out over the rest of the year?
Mr. Alderson: It has been a very well-flagged trade, but it's stopped working. There was all that talk of the yen going to 150, but it's back down below 100. I still think it will go to 110, 115 eventually. [Japanese Prime Minister] Shinzō Abe is determined to get inflation back into the system. They still need more structural change, though. That's going to be challenging.