By Rick Pendergraft
The last month was fun for the equity markets–if you like volatility. We saw stocks rally sharply from mid-June until early July and then fall for a week and a half as the Greek debt bailout struggled to garner approval in Europe. Subsequently, attention turned to the debt ceiling debate here in the U.S. The political wrangling and grandstanding has left investors feeling a little uneasy.
The recently approved bailout package for Greece took one concern off the table. As I write this, the debate continues to rage in Washington, with neither side understanding the word “negotiation.” While I do feel a deal will be reached, the intractable philosophical differences between the two parties and their unwillingness to compromise could result in a final deal that isn’t enough to satisfy the ratings agencies. The U.S. could still face a debt downgrade because of the gridlock in Washington or because the deal doesn’t do enough in the eyes of S&P and Moody’s.
This being said, I think the European markets will outperform U.S. stocks over the short-term. For the most part, France and Germany worked out the deal that was struck among European countries. This transnational partnership was logical, because these two countries had the most exposure to Greek debt. The deal also had a forward-looking provision that gives the European Financial Stability Facility permission to buy the bonds of other troubled countries and to extend credit to countries like Italy, Portugal and Spain. This move should allow the European Central Bank the power to stave off any additional debt crises.
I’m not saying that Europe is completely out of the woods yet, but the provisions of the brokered deal on Greece have put Europe in a better position than it was just a few weeks ago. This leads me to my belief that Europe will outperform the U.S. over the next few months.
Another factor buttressing my opinion: European markets didn’t rally as sharply as the S&P (NYSEARCA:SPY) in the mid-June rally. As a result, European markets are closer to oversold than overbought based on the weekly indicators.
Looking at a chart of the Vanguard European VIPERs ETF (NYSEARCA:VGK) as a barometer, we see that the fund recently bounced off its 52-week moving average and an upward sloped trendline connecting the lows from the spring of 2009 and the spring of 2010.
(Click chart to enlarge)
Yet another point that makes the VGK more attractive is the fact that it could rise another 38% before encountering its high from the fall of 2007. Looking at the S&P 500 SPDR (SPY) as a barometer for the U.S. market, we see that the SPY is less than 10% from its 2007 high. It’s also worth noting that the overbought/oversold indicators are considerably higher for the SPY than they are for the VGK.
Also note that Europe’s agreement on a Greek bailout and the continuing debt ceiling battle in Washington has shifted sentiment. Until the debt deal for Greece was complete, investors seemed to be shying away from European markets. Now that there is one less concern, we could see investors flock to these same markets. The protracted and bitter nature of negotiations in the U.S. capital may disincline investors from rushing back, even if a deal is finally reached.
With all of these things in mind, I look for the European markets as a whole to outperform the U.S. market. The VGK, along with the iShares S&P Europe 350 Index fund (NYSEARCA:IEV), are a good way to play the overall European market.