In fundamental terms it’s simply where do I put my money when investment opportunities in the US are drying up and the bond market bubble continues to grow. However in quantitative terms it’s a little more difficult to explain. It comes down to a function of valuation, return on investment and dividend signalling.
Valuation: This provides a means of comparison. In more technical terms a benchmark to evaluative the relative price of an asset. The price for 1 unit of earnings in the US is 20% more expensive than Europe. The UK more or less trades at a similar discount. However, what’s more interesting is that fact large cap valuations have dropped significantly more than their small cap counterparts. Remember from our Feb 25 edition capitalisation (cap for short), provides a yard-stick in measuring the size of a company, and provides essential divisions in interpreting different types of investment themes. For example in Europe, large caps have dropped 8 points from 2000 while small caps have fallen only 4 points in the same period. Similarly in the UK, the FTSE 30 has dropped 8 points compared to 6.5 points for the FTSE All-Share.
The Valuation Tale
Source : FactSet JCF estimates
Return on Equity: A profitability benchmark to determine the return on investment for an equity holder. Clearly large caps are providing significantly higher returns than their small cap counterparts. More importantly these returns particularly for Europe are above 16% almost 3% higher than the 10 year average.
Dividend Signalling: An insightful signal that indicates management optimism. When companies expect further profitability, they usually increase their dividend. In this instance in the next 12 months the aggregate for large European companies expect to increase their net dividend by at least 2% which is also 13% higher than last year.
Based on these pieces of evidence the case for large caps becomes even stronger.
These views are independent of FactSet Ltd and are proprietary to Bobby Rakhit. For the full report and individual sector reviews and recommendations please contact rakhitreport@yahoo.co.uk.