ISMS 6: UK Looks Most Interesting Among the Top 5 Stock Markets - Hedge Fund Alpha (formerly ValueWalk Premium)

ISMS 6: UK Looks Most Interesting Among the Top 5 Stock Markets

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In this presentation, I will introduce you to our FVMR investment framework

And will apply it to assess the attractiveness of the top five developed countries in the world: US, Japan, Germany, UK, and France.

Q4 2022 hedge fund letters, conferences and more

What do you think: Which of the largest country’s stock markets is most attractive?

What is your investment framework?

  • Our investment strategies for ETFs and stocks come from our FVMR framework
  • We backtest and optimize the strategy for the factors that have worked best in that market
  • We do all our research in-house
  • We don’t rely on other people’s research
  • We might, of course, get ideas from others, but we then test those ideas in our FVMR framework

The benefit of an investment framework is that it forces discipline

  • It’s easy to be emotionally affected by market events, which can cause you to make rash and costly decisions
  • To avoid this, we stick to our framework

A robust framework means our strategy relies on data and structure rather than just a feeling or an opinion

  • Management is responsible for producing earnings
  • Investors set the price the company trades at

There are Four Elements to our Framework

  • Fundamentals: Strong profitability shows a company is managed well. We prefer high or rising profitability.
  • Valuation: Shows how the market perceives the stock. We prefer good fundamentals at relatively cheap valuations.
  • Momentum: We try to avoid “value traps” by looking for positive price and earnings momentum. At times, low momentum signals an out-of-favor opportunity.
  • Risk: Prefer low business and price risk. Not every stock is going to fly; some just provide stable returns and strong dividends.

For this study, we look at the top 5 Developed Market countries ranked by GDP

  • USA – US$23trn
  • Japan – US$4.9trn
  • Germany – US$4.2trn
  • UK – US$3.2trn
  • France – US$2.9trn

EBITDA margin remains high in the US and UK at above 20%, lowest in Japan at 13%

  • Net margin is a remarkably high 12% in the US and UK, double the global LT average
  • At 7%, Japan is still double its long-term net margin of 3%
  • At 7% Germany is nearly double its long-term average of 4%

US companies have a relatively high 19% ROE, above its 16% LT average

  • Japan’s low 9% ROE  is partially driven by the low interest rate environment
  • Germany is just slightly above its 11% long-term average

European companies have paid out more cash to shareholders

  • US companies also return cash to shareholders through buybacks in addition to dividends, a reason this number is relatively low
  • Shareholder yield is about equal across these markets

US remains the most expensive market at 19x PE

  • Japan, Germany, and France at 13x
  • UK super cheap at 10x

On a PB basis, the US is very expensive at 3.7x

  • UK companies are asset-heavy
  • US revenue/asset: 0.70x
  • Japan: 0.69x, Germany: 0.58x, UK: 0.57x, and France: 0.52x

US companies are most expensive again with price-to-cash flow at 13x

  • About 50% higher than the others, which hover between 7x and 8x price-to-cash flow

Super low US dividend yield due to expensive market and payouts coming from share buybacks

  • The UK market now pays a high 4.2%
  • This shows that the market is cheap and also that inflation expectations are high

Considering ROE/PB, UK is super cheap, and the US is 2x as expensive

  • 6x PB in UK for a 16% ROE

Earnings expectations collapsed in France, Germany, and UK, but have bounced back

  • Highest expected EPS recovery in the UK
  • 2023 growth is expected to be strongest in Japan, weakest in UK

Over the past 6-months Germany and France are up about 12%, UK only half that, US neg.

  • The US market is up most over the past three years, Germany is about flat over three years
  • YTD winners are Germany and France

Things to consider about Europe

  • Lack of tech stocks in Europe compared to the US, so when value does well European markets do well
  • China reopening is positively impacting sentiment
  • Some speculate that lower oil prices and China opening may prevent a recession in Europe
  • Risk is that ECB will hike more than the Fed

UK and Italy have the highest 10-year govt bond rates

  • Europe – 2.8%
  • Germany – 2.2%
  • UK – 3.3%
  • France – 6%
  • Italy – 4.0%
  • Spain – 3.2%

So many risks

  • Nuclear war
  • Energy spike
  • US recession
  • Slower-than-expected China recovery

Key points and the bottom line

  • Considering all four elements: Fundamentals, Valuation, Momentum, and Risk
  • The US is expensive, and the UK looks cheap
  • UK looks most interesting among the top 5 stock markets

Click here to get the PDF with all charts and graphs

Article by Andrew Stotz, Become a Better Investor.


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