Global Market Valuations And Expected Returns – March 13, 2015

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Mar 13, 2015
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The US market was up more than 30% in 2013, the best year since the go-go years of the 1990s. 2014 was another strong year for the market. The S&P 500 index was up more than 13%. Since the market recovery in 2009, the US stock market has been up for 6 consecutive years. What is the situation in the other parts of the world? In February 2015, the key indexes in Europe were strong. Germany’s DAX index continued strong growth by 6.61% after 9.06% surge in January. France’s CAC-40 index went up by 7.54% after 7.76% increase in January. The FTSE 100 index gained 2.92%. Stock markets performances in Asia were good. Japan’s NIKKEI 225 gained 6.36%. Hong Kong’s Hang Seng Index increased 1.29% and China’s SSE Composite index was up by 3.11%.

As indicated in my last article, “Which Regions and Sectors Are International Gurus Buying?”, GuruFocus international gurus tend to put most of their holdings in Europe and Asia.

Warren Buffett said in an interview published on 2/25/2015 in the newspaper Handelsblatt that his holding company Berkshire Hathaway is definitely interested in companies in Germany. “Germany is a terrific market, lots of people, lots of buying power, productive, it’s got a legal system we feel very good with, it’s got a regulatory system we feel very good with, it’s got people we feel very good with - and customers,” Buffett said.

George Soros, one of history’s most successful financiers, has been selling US holdings to buy European stocks. It is said that he has moved about $2 billion into companies in Asia and Europe, according to a person familiar with the strategy.

Robert Shiller, who popularized the cyclically adjusted price-to-earnings ratio (commonly known as Shiller P/E), is also thinking about exiting US stocks and getting into Europe. He said in a television appearance on 2/18/2015 “I'm thinking of getting out of the United States somewhat. Europe is so much cheaper.” Specifically, Shiller has already purchased stock indices in Spain and Italy.

Leon Cooperman wrote in an investor letter in January this year remained bullish on the U.S., while predicting bigger gains elsewhere. He said “We expect the European and Japanese equity markets to outperform the U.S. in the coming year.”

The US stock market appears to be really high. Maybe it is the time to find some real bargains in the international markets.

In Martin Whitman's Third Avenue Management Q1 Shareholder Letter 2015, it mentioned:

“Certain TAM funds have exposure to common stock investments in companies listed on the Hong Kong Stock Exchange, where companies in turn are heavily invested in income producing and development real estate in Hong Kong, Mainland China and Singapore. For these companies, NAVs and Price Earnings Ratios seem to be almost as low as they were in 2008. The average Hong Kong holding seems to be selling at a 40% to 50% discount from readily ascertainable NAV. In contrast, at January 31, 2015, the Dow Jones Industrial Average was priced at 3.04 times book value and the S&P 500 was priced at 2.73 times book value. PE ratios reflect the same disparities in price as do the NAVs. Most of the Hong Kong common stocks held in TAM portfolios are selling at 3 to 7 times reported earnings. In contrast, at January 31, 2015, the Dow Jones Industrial Average was priced at 15.5 times reported earnings and the S&P 500 was priced at 17.6 times earnings; these differences seem meaningful even though the Hong Kong reporting system is IFRS and the US reporting system is GAAP.

There are negatives to the Hong Kong investments but prices are so low, and the growth probabilities over the next 3 to 5 years seem so good that the negatives don’t seem to be show stoppers. In summary, the negatives seem to be about as follows:

o The macro outlook for 2015 for Hong Kong and China points to, at least, a mild slow-down.

o Most managements may be insensitive to the needs of US taxpayers. While all of the Hong Kong common stocks owned in TAM portfolios pay dividends which mostly have increased every year or two, such dividends are taxed as ordinary income for US tax payers.

o There are few prospects for changes of control in any of the Hong Kong companies.

o There are few prospects for going private.”

In Wasatch International Growth Fund’s Q4 2014 Commentary, it mentioned:

“We continue to be underweight in Europe and overweight in the Asia-Pacific region. The two biggest overweights in Asia are Japan and India. We believe both of these markets have a positive and improving investing environment, and our screening process continues to highlight many intriguing investment opportunities. We increased our weight in both of these markets during the fourth quarter. ”

In Bernard Horn’s Polaris Global Value Fund Q4 2014 Shareholder, it said:

“We believe the net benefits to oil consuming economies outweigh the reduction in the growth of oil producing regions. Globally, only a small number of countries with small populations benefit from higher oil prices; most all others, including the U.S. and China, are net beneficiaries of lower prices.

In the U.S., lower gasoline prices may lead to more discretionary spending power, and indirectly boost consumer confidence. U.S. companies may see profit margins rise, as costs drop for logistics, utilities, running factories, and business and consumer travel. While areas like North Dakota may experience contraction from their torrid growth where unemployment is extremely low, most other regions in the U.S. will likely see long awaited improvement.

Lower commodity prices will also help China mitigate the decrease in its GDP growth rate for the near term, spurred on by new rail projects and building infrastructure. According to China Daily, China will target construction of 7 million affordable housing units, the same as 2014, although only 4.8 million units were built in the year. Commodity price declines will also mitigate the spending decline wrought from Japan’s consumption tax hikes.

However, lower oil prices may not have a dramatic impact in regions like Europe where taxes are a large percentage of the retail pump price. Instead, we believe Europe will benefit from deflation in 2015, a view contrary to some policy makers and pundits. Inflation is a highly regressive tax for low and middle income earners, especially since real wages have not increased in more than 30 years. The only way these consumers have to advance their economic condition is through lower prices. If real wages are constant but the real cost of goods declines, consumers have more real disposable income and can choose to save, pay down debts, invest or consume the added income.”

We reviewed the US market valuations and the expected return and found that US market is expected to return 0.3-1.4% a year in the upcoming years. The global market provides a totally different picture. The returns in some countries show as being much higher.

The details of the how to estimate the future market returns of the global market, the data sources, the interpretation of data have all been discussed in great details in our new page of Global Market Valuations. Please go to that page if you want to learn more and have unanswered questions.

Please note that there are large errors in predicting the future returns of emerging market because not enough historical data is available. These countries may not be able to grow at the same rate as they did before. But in general, the chance of have better future returns are higher for these market that are traded below historical means than for those that are traded above.

As of March 13, 2015, the expected returns for the global market are shown in the chart below:

03May20171137141493829434.png

Among developed countries, Singapore has the highest expected market returns, which is 13.5%. Australia sits in the second place with a projected annualized return of 8.7%. Korea ranks in the third place. The expected returns are in the order of mid-teens a year. Among developing countries, Russia now sits in the first place with the expected market return to be 31.5%. China’s expected market return is the second highest. It is in the order of 28.7% a year.

These are the details of the expected return for the world’s largest markets:

Projected Annual Return Mar. 13, 2015 Feb. 16, 2015 Â
Singapore 13.5% 13.5% Same
Australia 8.7% 9.0% Decrease
Korea 7.7% 8.0% Decrease
Italy 6.4% 8.3% Decrease
Spain 6.3% 6.3% Same
Netherlands 4.9% 5.7% Decrease
UK 3.8% 4.1% Decrease
Canada 2.7% 2.8% Decrease
France 2.0% 2.8% Decrease
Sweden 1.2% 1.8% Decrease
Switzerland 0.9% 1.4% Decrease
USA 0.3% 1.0% Decrease
Japan -0.4% 0.3% Decrease
Germany -1.5% -1.1% Decrease
Emerging Market Mar. 13, 2015 Feb. 16, 2015 Â
Russia 31.5% 31.6% Decrease
China 28.7% 27.8% Increase
India 15.7% 15.8% Decrease
Brazil 15.5% 15.8% Decrease
Indonesia 14.1% 14.6% Decrease
Mexico 2.6% 2.9% Decrease

Three factors decide the expected returns of the market. They are economic growth, dividend payment and the current market valuations. If the current market valuation is below its historical mean, the contribution from the reversion of the market valuation to the mean is positive. Otherwise, it is negative.

Among developed countries, contributions from reversion to the mean for Sweden, Canada, Switzerland, USA, and Germany markets are negative because these stock market in these countries are traded above historical means. For developing countries, Indonesia, and Mexico are negative. The details can be seen in the chart below:

03May20171137141493829434.png

For detailed information and data interpretation, go to the page of Global Market Valuations.

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