Europe in Better Shape Than US: Strategists
Growth in the U.S. is set to easily outpace the euro zone but the U.S. "fiscal cliff" is concerning strategists to such an extent that Europe, despite its on-going economic woes, looks like a better investment strategy.
"The 'fiscal cliff' in the U.S. is a worry," Garry Evans,Global Head of Equity Strategy at HSBC told CNBC on Tuesday. "And that's one of the reasons that I'm underweight the U.S. and I prefer Europe - it's a bit of an unusual place to be."
As negotiations continue between Democrats and Republicans over how to avert around $600 billion of spending cuts and tax increases, there are widespread fears that a solution on tax reform, deficit reduction and public spending may not be found before the new year.
Indeed, on Monday President Barack Obama told auto workers in Michigan that the U.S. economy would go into a "downward spiral" if a bipartisan deal was not reached.
(Read More: 'Cliff' Failure Could trigger a Market Sell-Off)
"I don't think we're going to solve the 'fiscal cliff'before the end of the year," HSBC's Evans said on CNBC Europe's "Squawk Box". "It's going to be February or March next year and in the meantime we go off that cliff, markets are going to get nervous about that."
The U.S. and European economies have diverged in recent months, with the U.S. posting a 2 percent annualized rate of growth in the third quarter, while the euro zone economy contracted during that period.
Although the U.S. was going to grow "a lot faster than Europe" in 2013, Evans said, his reticence over U.S. stocks came down to the broader risk outlook. "Europe isn't solving its problems but perhaps it's getting slightly less risky and the U.S. 'fiscal cliff' is getting more risky."
Europe Making Progress
Chris Watling, CEO of Longview Economics, agreed that as political stalemate in the U.S. continued to hinder a resolution to the impending "cliff", Europe was making progress, albeit slowly.
"Spain will be growing by the next year and so will Portugal and possibly Greece in 2014," he said. "If you look at when crisis economies start to grow again, it's when they've closed their current account deficits. That's the most important indicator…[when you] stop living beyond your means," he added.
Despite Spain's economy contracting 0.3 percent in the third quarter over the previous quarter - the fifth contraction in a row – and Spain's finance minister Luis de Guindos on Monday predicting a decline in GDP of 1.4 percent in 2012, Evans thought that the country would soon reap the benefits of harsh austerity measures and labor market reforms.
"They have put in place a lot of the right measures…[and] the right reforms in place, in a year or two, the results will start to come through."
(Read More: Euro Zone Must Press On With Reforms)
Evans accepted that markets in Europe have been rattled by political instability in Italy in recent days, but he said he would only become concerned if Spain, whose funding needs rise to 207 billion euros in 2013, does not ask for financial aid from the troika of international lenders in the form of the ECB's bond-buying program.
"I think key for the markets next year will be whether Spain does go to the troika and ask for a [financial aid] package," Evans added.
Europe Stocks to Outperform?
Both the S&P 500 and the FTSEurofirst 300 have rallied around 13 percent this year. But European stocks have outperformed their U.S. peers since the lows in the summer. The FTSEurofirst 300 has gained 18 percent since the low on June 4 while the S&P 500 has gained 11 percent over the same period.
The rally in European banks and cyclicals picked up steam after the ECB announced its unlimited bond buying program in September, easing investor concerns of an imminent breakup of the single currency zone. But Evans said European stocks were still undervalued relative to the U.S.
"A lot of [my outlook] comes down to valuation. So if you look at price-to-book difference between Europe and the U.S., the U.S. is on a 60 percent premium to Europe and that's the highest it's been going back to the 1970s."
According to Evans, there were potential profits still to be found in European companies with heavy emerging markets exposure. He said investors looking to invest in emerging markets should not confuse "economic growth with earnings growth."
"European companies… actually make 50 percent of their revenues from outside of Europe and they're making it from economies that are growing faster than Europe almost by definition."
"So you can have reasonably good earnings growth," he said."As long as we don't go into a horrible recession in Europe of flat-line, no growth at all, you can still get around 5-10 percent earnings growth in Europe."