Professional Adviser- Europe ex UK Sector Review

It is fair to say that most multi-asset or fund of funds managers would agree that the European equity market looks to be good value.

Compared to US or UK equities, Continental Europe looks cheap on a basis of p/e ratios albeit more expensive than emerging market shares after their recent falls and broadly in line with the Japanese market after its strong run last year.

On a pure asset allocation basis the case looks strong for advisers to increase exposure to Europe since the peak of the Global Financial Crisis in September 2008.

The economic data may make for confusing reading with unemployment still appearing around 12% across Europe, but notably it is the peripheral countries pushing this figure up such as the so-called PIGS – Portugal, Ireland, Greece, and Spain with no to slow economic growth and unemployment reaching as high as 28%.

But during 2013 the equity markets of countries with the worst economic data were some of better performers, as institutional investors began to shift back to them based on their gradually improving outlook.

The intuitive belief would be that this backdrop creates the best opportunity for active, stock picking fund managers to perform well in the coming year where there is no clear ‘momentum’ behind markets.

And with many of these countries in the early stages of economic recovery, history suggests those funds with a bias or an ability to invest in smaller and mid-cap companies should do well, as much of the market issues still relate to large cap stocks.

But the analysis by Pure Research Group, shows just how difficult a sector the European equity funds are to analyse.

The top 20 funds, based on the PureResearch Forward Perspective Ratings, as at 31st December 2013, shows a mixture of active funds with strong long term track records such as JP Morgan Europe Dynamic, Cazenove European, and Artemis European Growth, whose pedigree stretches back over the previous decade.

Europe ex UK Sector Analysis - 10FEB2014 (Chart 1)Joining this list are funds with shorter, three year track record, such as Invesco European Opps or GLG Continental Europe but notably two ETFs, Lxyor Eurostoxx50, and iSharesEuro Dividend also make the top performers.

What this seems to indicate is the importance of dividends in both the active and passive funds, which would again be in line with previous market cycles, but it does show that using a strategy of allocating between both styles of fund would be appropriate.

The PureResearch Forward Perspective Ratings are based on a systemic analysis process created by two US professors Dr Russ Wermers and Dr Allan Timmermann through Parala Capital, a firm they founded in 2008.

The process shows that key economic factors such as interest rates, rising or falling GDP, or unemployment, directly relate to the performance of an asset class and this performance is likely to be repeated over an economic cycle.

The research can be used to differentiate between active fund managers but also to differentiate between passive managers.

Using the PureResearch data it is clear the top 20 funds, based on the PureResearch Forward Perspective Rating, as at 31st December 2013, have also been consistently among the top performing over the previous three years, with over 50% being in the top 2 quintiles when assessing their 3yr annualised returns (Rank 5/5 & 4/5).

Notably we can see there is something a rotation in performance coming with some of the stock picking funds looking as they will perform less well in the coming year as indicated by a PureResearch Forward Perspective rating of 1.

Europe ex UK Sector Analysis - 10FEB2014 (Chart 3)An analysis of those funds that have improved most in Rating from June to December last year, shows that the opportunity lies with ETFs, with only two of the top ten most improved funds being actively managed.

Europe ex UK Sector Analysis - 10FEB2014 (Chart 2)These two – HSBC GIF Euroland and Smith & Williamson European Growth back in June were rated respectively 1 and 2 by PureResearch indicating they would not be among the top performers, these two funds have appeared outside of the top 2 quintiles based on their historic 3 years annualised performance.

Now with a move in the business cycle both funds have moved to a 5 rating indicating they should perform well this year.

In conclusion for advisers looking to allocated client money to European equity markets a mixture of ETFs and actively managed portfolios may be the best route, although if you remain cautious then diversifying across two different types of active or passive funds with a strong forward ratings is a sensible way to get exposure.

 

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