It's Time to Buy Europe


The coordinated central bank intervention that we've seen from the European Central Bank, the Federal Reserve, and most recently the Bank of Japan demonstrate just how serious policymakers are about getting the global economy back on a stronger footing. Investors have taken note of that determination, and in the U.S., the stock market has set successive five-year highs. Some now believe that the next leg higher will make a serious run toward all-time highs in the not too distant future.

Among professional money managers, though, the mood isn't nearly as euphoric. In fact, manager sentiment suggests that stocks in the U.S. may have come as far as they can, and many managers are looking elsewhere for better bargains from equities.

With the Dow having risen 11% since the beginning of the year and broader market indexes posting even stronger gains, investors who braved the tough economic conditions from early 2012 have been rewarded for their courage. Those rewards, however, may be coming to an end. In a survey of top fund managers, 58% of those responding said that U.S. stocks were the most overvalued market in the world.

Obviously, the big jump in the stock market is a major part of the negative sentiment on U.S. valuations. Yet another thing that managers are worried about is the risk side of the equation, especially the potential impact from the fiscal cliff. With no action likely until after the election and the possibility of dozens of lame-duck lawmakers having little or no incentive to move decisively on resolving the huge changes that are due to take effect to the tax code at the beginning of 2013, the mounting uncertainty could result in at least a pause to the bull market, if not a longer-term reversal.

Manager sentiment matches up pretty well with how many ordinary investors feel about the stock market right now. After big gains, it seems that stock prices have a built-in assumption that all the efforts toward boosting the U.S. economy will succeed, even before that economic success comes to pass. So if the expected good news actually happens, then it shouldn't give investors anything more than they already believed would happen, thus making further advances uncertain. Yet if bad things happen, look out below.

If U.S. stocks are overvalued, the obvious question is where fund managers believe you can get better bargains. The answer is Europe, where fears over the sovereign debt crisis have greatly diminished in light of the European Central Bank's efforts. The survey showed that 43% of managers believe that Europe is the most undervalued stock market right now. With a constitutional court in Germany having approved the validity of the European Stability Mechanism bailout fund, confidence is high that Europe has the tools it needs to get itself out of its mess.

Already, stocks have seen big gains on that assumption. On the financial front, Banco Santander (NYS: SAN) has vaulted around 60% just since late July, while compatriot Banco Bilbao (NYS: BBVA) has also seen similarly sized gains in light of better prospects and lower Spanish bond rates. You'll also find that optimism expressed in gains for mobile giant Telefonica (NYS: TEF) , which has broad exposure to markets not just in Europe but in Latin America as well.

Fund managers have moved to a big overweight position on Europe, but they don't trust the recovery in the financial sector. Instead, they've turned to oil and gas stocks as a favorite sector. Despite the recent drop in oil prices, France's Total (NYS: TOT) and Norwegian giant Statoil (NYS: STO) both benefit from higher prices for Brent crude compared to U.S.-produced West Texas Intermediate. Moreover, with plenty of new exploration opportunities, both companies have continued building their resource bases and are poised for future growth. Although their shares have rallied along with the rest of Europe, they still boast reasonable valuations as well.

In light of the survey, looking at your relative allocations to U.S. and European stocks is a smart move right now. But rather than making extreme changes to your portfolio, a better long-term strategy is to come up with ranges of how much of your stock portfolio you want to dedicate to various parts of the world. That way, you'll get into the habit of buying into beaten-down markets when they're recovering while taking profits on expensive investments.

Just because the U.S. market may be overvalued in general doesn't mean that you can't find good investment opportunities among individual stocks. Read this popular Motley Fool special report and find out the names of three American companies set to dominate the world. It's absolutely free, so don't wait -- click here and claim your copy today.

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Fool contributor Dan Caplinger wants to send himself across the ocean one of these days. You can follow him on Twitter @DanCaplinger. He doesn't own shares of the companies mentioned in this article. Motley Fool newsletter services have recommended buying shares of Total and Statoil. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Fool's disclosure policy is a world traveler.

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