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By Michael Ide

The shine has come off European equities recently as a combination of geopolitical tension and concerns about the financial system raised by the Banco Espirito Santo SA (OTCPK:BKESY) scandal have caused asset managers to reduce the eurozone overweight they've had since the beginning of the year. According to Goldman Sachs' Macro-data Assessment Platform (MAP), which measures actual stock price performance against macro indicators, Europe has been underperforming recently, but it could have even further to fall.

European equities underperform relative to macro indicators, but PMI tells another story

Whether you break down performance by country or region, Europe is lagging while emerging markets outperform and the US continues to surprise to the upside, conclude Goldman Sachs analysts Noah Weisberger and Aleksandar Timcenko, based on the investment bank's MAP measure.

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The mismatch between macro indicators and stock price performance should make you wonder if some healthy companies are getting caught up in the fears about tension between Russia and Ukraine, but there is one indicator that should give you pause: eurozone PMI has been in a slump.

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On the other hand, Weisberger and Timcenko point out that the euro appears to be at the beginning of longer term weakening based on two-year swaps. Whether that signals market concerns about the European economy or the expectation that the European Central Bank will take stronger action to fight deflation, it should at least be good for export-oriented parts of the economy.

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Eurozone PE multiples are a bit high relative to history

In the meantime, there is definitely room for eurozone stocks to fall further. Most eurozone economies have had PE expansion since 2013. Only Spain has had multiple contraction because of its strong EPS growth, while Portugal has had more PE expansion than the US recently because prices had remained fairly steady in the face of falling EPS, at least until the Banco Espirito Santo collapse forced everyone to take a look at their investments there.

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Multiples are also above their historic medians in most of the eurozone. The big exception here is Greece, which is in the bottom 3 percent of its historic PE. It's probably fair to say that Greece is still in the worst shape of any European country, but it's no wonder hedge funds spent much of the last year investing there - unlike the rest of Europe, it has nowhere to go but up.

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Source: European Equities Retreat, Could Have Further To Go