The selloff in U.S. Treasuries may finally give the bourses of Frankfurt, Paris or Milan a decisive edge for 2021 after five straight years of underperformance against Wall Street.
What has changed from the previous years is that the 10-year U.S. yield, at roughly 1.5%, now matches the dividend yield of the S&P 500.
That means a risk-free U.S. government bond yields as much as the average Wall Street stock’s dividend.
By contrast, European yields are nowhere near U.S. levels although they also have risen to 12-month highs. Despite the selloff, French 10-year yields are flirting with 0% and Germany’s are still well below the -0.2% bar.
Any euro zone 10-year government bond, including Greece at about 1.1%, is safely under the 1.8% dividend yield of the EURO STOXX.
The ‘there is no alternative’ narrative, or “TINA”, the acronym coined to describe how equities were the only game in town, no longer applies to U.S. markets but is arguably still very much in play in Europe.
U.S. equities are also expensive, trading at 22.3 times their forward 12-month earnings versus an historic average of 16 times.
With government bonds getting more attractive, the risk premium investors are willing to pay for stocks is likely to steadily shrink.
Still, major asset managers such as BlackRock like U.S. stocks for their long-term earnings growth potential.
With the U.S. Federal Reserve and government stimulus going full force, the U.S. economy is expected to recover more rapidly and strongly than Europe.
Another structural trend might also boost the attractiveness of European stocks: the reflation trade triggered by the vaccine breakthrough and the stimulus boost expected from the new administration of U.S. President Joe Biden.
Equity portfolio managers have begun to shift towards stocks that typically benefit from rising rates, growth and inflation, like banks and energy groups, and away from those like tech that have prospered in a low-growth, low-interest-rate environment.
European indexes have long suffered from their lack of big technology stocks such as Google, Apple or Netflix, which have been investors’ darlings in the past decade.
But a stock market cycle fuelled by growth and inflation could transform Europe’s cyclical overweight weakness into a competitive edge.
Year to date in dollar terms, the pan-European STOXX 600 and the S&P 500 are neck and neck with a rise of about 2%.