According to David J. Kostin and colleagues at Goldman Sachs Portfolio Strategy Research, U.S. stock markets are “expensive” right now, and investors have to look deep to find value. In their weekly report published February 20th, the Goldman analysts suggest “better value exists in non-U.S. markets provided currency hedges are used”, but the best place to find value right now in U.S. stocks is firms that are returning cash to shareholders via buybacks and dividends (especially in the energy, telecom and information technology sectors).
Global markets currently offer better value than U.S. markets
With U.S. stock markets hitting record highs and Fed rate hikes just around the corner, Kostin et al. suggest better value opportunities can be found in ex-U.S. stock markets assuming currency hedges are used. They anticipate local currency 12-month stock returns in Japan of 19% (TOPIX), 17% in Europe (STOXX 600), and 15% Asia-Pacific (MXAPJ), relative to just 4% for the S&P 500. Of note, TOPIX will see EPS growth of 22% and a P/E multiple of 13.3x. By the same token, equities will enjoy a nice tailwind from the ECB’s QE stimulus program. Even given a stronger dollar, foreign equity markets are likely to outperform their U.S. counterparts.
Time for value stocks to shine
The Goldman Sachs report suggests that the recent underperformance of value stocks could turn around once we start seeing steady economic growth.
Growth stocks are up 4% so far this year, “reflecting investor concerns about the prospects for economic and profit growth”, whereas value stocks are up less than 1%. Kostin et al. note high growth stocks typically perform best when economic growth expectations are on the downswing. They note: “Historical experience and our above-trend US GDP forecast of 3% for 2015 suggest the performance lag in value stocks will not persist.”
Take a look at U.S. stocks returning cash to shareholders
The current “theme” for Goldman Sachs Portfolio Strategy Research is U.S. stocks that re returning cash to shareholders with buybacks and dividends. The current constituents of the 50-stock equal-weighted sector-neutral basket (Bloomberg: <GSTHCASH>) have a median combined shareholder yield of 12% compared with 5% for the median S&P 500 firm.
Of note, the shareholder return basket currently sports a median forward P/E of 16x compared with 18x for the median S&P 500 stock. The GS analysts point out “the stretched valuation of the U.S. market means companies paying dividends and repurchasing shares (admittedly at high prices) will likely continue to outperform those firms dependent on P/E expansion to deliver returns above EPS growth rate alone.”
