Should investors pin hopes on Europe for 2016?

Going into 2015, investors had high hopes for the outlook of euro zone stocks amid high expectations for European Central Bank president Mario Draghi and a massive stimulus plan that markets forecast would make decent returns from the region.

Fast forward to the end of August, and the pan-European FTSEurofirst had registered a monthly loss of 9 percent, its worst since August 2011, dragged down by a combination of falling oil prices, China and looming U.S. interest rate rise fears.

Global equity markets have recovered since mid-September, with European stocks back on track and set to post gains of around 6 percent this year if they end 2016 around current levels.

Traders at the Frankfurt Stock Exchange
Bloomberg | Getty Images
Traders at the Frankfurt Stock Exchange

As U.S. growth is further along and earnings are expected to plateau, chief investment officers (CIO) drawing up predictions for 2016 are revisiting their initial 2015 bias for euro zone stocks -- but with significantly less exuberance than this time last year.

"Our overriding view of the equity market is that it's richly priced and has dubious internal dynamics, such as very narrow breadth (or a small number of stocks leading the overall market higher). This combination doesn't guarantee it will go down a lot. But nor do we believe our base case should be that it shoots up a lot either," said Marcus Brookes, head of the multi-manager investment team at Schroders, which as a group oversee around $450 billion under management.

"We expect the trend of U.S. equity leadership to flip in 2016 and for international equities to begin to outperform in both local and common currency terms. With the level of U.S. profit margins close to record highs and with earnings growth already having moderated, we ought to be able to garner a greater return elsewhere," he said, with a preference for Europe, as well as Japan.

The ECB announced a number of changes to its 60 billion asset purchase program at its December meeting in an effort to fend off sluggish inflation and boost lackluster growth, as it cut its key deposit rate further into negative territory.

Draghi announced the central bank would extend its massive bond-buying scheme to at least March 2017 and broadened the program to include regional and local bonds.

But he disappointed the market by stopping short of expanding the amount of bonds purchased by the bank each month, adding that the parameters of the plan will be reviewed again in spring next year.

"For euro area assets, the sun should continue to shine as monetary conditions become looser still, even as the growth outlook improves. In this region, our preference is very much for equities as the euro is unlikely to fall below parity with the USD given the dovish message expected from the Fed," global head of asset allocation at Societe Generale, Alain Bokobza said in the group's 2016 outlook.

CIO and global head of equities at Columbia Threadneedle Investments, Mark Burgess said the combination of QE, lower energy prices, euro weakness and loosening credit conditions should all enhance the trading environment for European companies.

"There are now signs of improvement in several euro zone economies, and we anticipate that domestic European earnings will continue to contribute strongly to overall corporate profitability," he added.

Contrarians bet on the US

But not all were convinced that Europe will deliver the straight forward returns many are hoping for in 2016, as further bouts of volatility are likely to cloud the picture.

Many investors are choosing to look at stock and sector selection over regional allocation, with technology and industrials particularly in focus.

"We do not have any distinct preferences within the U.S., Europe and Japan. Earnings growth should be similar in all three regions in 2016 and less influenced by currency fluctuations than in 2015," global head of equities Deutsche Asset & Wealth Management, Henning Gebhardt said.

"Equity investors will find the winners of further developments in digitalization, particularly in the technology sector," he said.

CIO of Palisade Capital Management, Dan Veru is avoiding Europe altogether in favor of tech and ecommerce stocks in the U.S. such as Amazon and Apple, despite worries of lofty valuations.

"The story earlier in the year – buy European equities, because the relative valuation was much more compelling and my response to that was - you get what you pay for," he told CNBC.

"This is a market that is going to pay for growth which is why I think the U.S. will outperform next year, relative to other stock markets," he added.

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