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Are European Stocks a Buy?

Last week, bond and equity markets signaled that the EUR110 billion bailout from the EU-IMF for Greece would not do the trick of restoring confidence. The MSCI Europe index lost nearly 14% in dollar terms. Today, European stock markets are surging on the announcement of a vastly expanded EUR750 billion bailout program involving the European Union, the European Central Bank and the IMF. In that context, here's a prudent approach to the question: Are European stocks a buy?

Three themes for safety
In terms of asset allocation, I think investors should be underweight European shares right now -- even after this morning's announcement. Nevertheless, it is likely that last week's turmoil created pockets of value in European markets. Safety first! Investors who wish to bargain-hunt for European stocks would do well to keep the following themes in mind:

Actually, the same themes are equally applicable in the U.S. right now, given the environment. Here are a few ideas of companies that may fit one or several of those themes (these are ideas, not recommendations; make sure to perform your own due diligence before investing):

Banking: UBS (NYSE: UBS  ) , Credit Suisse (NYSE: CS  )
On April 30, I wrote: "In the immediate future, my recommendation would be to avoid European banks altogether." As if on command, The MSCI Europe Banks index fell 18.5% in dollar terms last week, while the MSCI EMU Banks index fell 21.8%.

I don't recommend investing in European bank shares unless you are doing so with true "risk capital" and you have some time and expertise to devote to analyzing them. If you are steadfast about buying European bank shares, I'll repeat my advice of April 30th: Favor Swiss banks UBS and Credit Suisse over their Eurozone-bloc peers.

Indeed, the Swiss banks are better capitalized than most of their European peers, their home market is outside the Eurozone, and they have low exposure to the sovereign debt of Greece, Portugal, or Spain. In 2009, UBS derived the overwhelming majority of its revenues from two countries: Switzerland and the U.S.; Europe excluding the U.K. represented less than 6% of the total.

Furthermore, as a traditional safe haven, Swiss banks stand to benefit from any turmoil in Europe, as wealthy Europeans seek to protect their assets against the risk of a bank collapse, as well as from a charged-up taxman looking for funds to fill gaping European budget deficits.

None of these qualities prevented the shares of both of these banks from losing 10.5% last week; on the basis of 2011 earnings-per-share estimates, both look attractively priced at first glance (UBS's price-to-earnings multiple is 7.6, Credit Suisse's is 6.9).

Telecoms: Telefonica (NYSE: TEF  )
Telefonica is headquartered in a country that is considered at-risk of contagion to the sovereign debt crisis (at 55%, Spain's public debt/GDP level is actually relatively low, but external private debt is substantial). However, there are a number of factors at work here to mitigate the risk: Domestically, Telefonica is the national carrier; meanwhile, it generates a hefty share (40%) of its revenues in high-growth markets in Latin America.

Telefonica's dividend yield is around 8% and, at a glance, the dividend looks well-covered by operating cash flows. That level of yield certainly takes the sting out of waiting for a revaluation in the shares, which trade at 8.1 times estimated 2011 earnings-per-share.

Energy: Total (NYSE: TOT  ) , Royal Dutch Shell (NYSE: RDS-B  )
Total (France) and Shell (U.K./ Netherlands) are two of the three largest oil and gas "majors" in Europe (the third being BP). Right now, both stocks look similarly attractive from multiple facets, including a high dividend yield (above 6%), low valuations (price-to-earnings multiples under 8 on the basis of 2011 EPS estimates), and low levels of debt. In both cases, investors can consider that the dividend is rock-solid.

Integrated oil companies are exposed to commodity prices and, consequently, to the level of economic activity. European growth is already lagging behind most regions; a double-dip recession would certainly impact these companies. Another less-obvious risk: Companies that generate as much cash as oil majors are an easy target when governments are trying to raise taxes (see the new 40% tax on resource companies that the Australian government proposed at the beginning of the month).

This isn't over until the fat Eurocrat sings
While today's stock price increases erode some of the attractiveness of the ideas I have described above (the price multiple and dividend yield data is based on Friday's closing prices), they may still be worth pursuing. Even if that is no longer the case now, investors should keep them in their back pocket -- my sense is that this is hardly the end of the matter in Europe, as politicians and bureaucrats have shown no willingness to address the root causes of the crisis (trade / consumption / competitiveness imbalances, lack of a European fiscal union, etc.).

The credit crisis has turned the investing landscape upside down, with advanced economies' finance now looking more like those of a banana republic. In that context, Tim Hanson explains how to make more in 2010.

Fool contributor Alex Dumortier has no beneficial interest in any of the stocks mentioned in this article. Total is a Motley Fool Income Investor recommendation. Try any of our Foolish newsletters today, free for 30 days. The Motley Fool has a disclosure policy.

Read/Post Comments (8) | Recommend This Article (24)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On May 10, 2010, at 5:39 PM, oldengineer wrote:

    This is the kind of article I like. It answers the question posed in the heading without the waffling that is so often present in the daily Fool articles.

    This is the type of high quality information I have come to expect from Mr. DuMortier.


  • Report this Comment On May 10, 2010, at 6:23 PM, megalong wrote:

    I think there are lots of decently priced companies:

    Eni, BP, Repsol

    Seadrill, Acergy, Petroleum Geoservices

    Anglo American, Norsk Hydro

    Energias de Portugal, Enel, E.ON, Fortum, GDF Suez, Iberdrola, International Power, StatoilHydro

    Vestas, Gamesa

    France Telecom, Portugal Telecom, Vimpel

    Food Lion, Imbev-Bud

    Sanofi, Novartis, AstraZeneca, Syngenta

    BBVA, Allied Irish, Bank of Ireland, Barclays, Santander, Bank of Greece

    Volkswagen, Aercap, TORM, Greek shippers

    That said, the only European stock I own is Total.

  • Report this Comment On May 10, 2010, at 8:49 PM, TMFAleph1 wrote:


    Thanks for your kind words. It's a great pleasure to receive that kind of praise from a reader.


    Alex Dumortier

  • Report this Comment On May 11, 2010, at 4:30 AM, blumelo wrote:


    Don't thank us. Just keep writing cut-to-the-chase articles. And we'll keep thanking you.

  • Report this Comment On May 13, 2010, at 9:10 AM, mikecart1 wrote:

    I don't favor investing in companies outside the US. I only invest in American companies like BP, DEO, and QXM.

  • Report this Comment On May 14, 2010, at 2:37 PM, SwissFool100 wrote:

    Currently living in Switzerland I can make the following comments.

    1. UBS is probably the best banking-share, if one is patient enough. I think it will be few times the current price in the next few years.

    2. Credit-Suisse is a very robust Swiss bank right now. But its share-price did not fall so its growth will also be limited.

    3. The nature of Swiss markets is defencive in nature, which includes Nestle, Roche, Novarties.

  • Report this Comment On May 14, 2010, at 2:42 PM, IIcx wrote:

    Are European Stocks a Buy?

    NO, wait for the euro to drop.

  • Report this Comment On May 16, 2010, at 12:31 PM, tomd728 wrote:

    I have to believe that this round of Euro hardship will not be resolved by any measures to date ?

    Why ? These "fixes", be they in Europe or other economic blocks, always seem to come up short as the base cause is never fully addressed.

    I believe we will see a second feature of this drama sooner rather than later.

    There are definitely solid operations such as Telephonica,the heavy weight drug companies and the more solid Banks but is the discount for risk already factored in enough to make them a bargain ? At some point there is an entry but I won't know where and I leave it to the distinguished Mr. Dumortier and other Fools of such a mind to guide me.

    Thank you,


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