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Among European Stocks – Up a Currency-Aided 20% in 2012 – Energy Issues Now Favored

Carla Fried

The 16% total return for the S&P 500 stock index in 2012 was definitely none too shabby. That is, unless you put it side-by-side with the MSCI Europe index, which managed a 20% total return for the year. Okay, so a chunk of that was thanks to the declining value of the Euro vs. the dollar, but even in local currency the MSCI Euro index was up about 12% in 2012. The performance of the European stock markets in 2012 was just the latest data point showing the frequent disconnect between macro economics (Europe remains a mess) and markets (double digit returns amid the economic dysfunction.)

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Thing is, plenty of the dominant global players that just happen to be based in Europe aren’t all that cheap. Nestle, Roche, Bayer, Diageo (DEO), and SAP (SAP), are all trading at PE ratios of 20 or higher.

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That’s not the case over in Europe’s energy sector, where BP (BP), Royal Dutch Shell (RDS-B) and Total (TOT) have sub-10 PE ratios.

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BP PE Ratio TTM Chart

Not surprisingly, all three were bystanders during last year’s euro-stock rally.

VGK Total Return Price Chart

But a new FactSet report says analysts who cover the near 10,000 companies in the MSCI European index are the most bullish on the energy sector for 2013. Within the energy sector, 55% of the ratings are “buys” and the average expected return for the sector is more than 17%. That compares to 45% of the entire index getting a “buy” rating, with an expected 2013 return of 6.5%.

The European energy leaders are basically in the same boat as U.S. based Exxon Mobil (XOM) and Chevron (CVX): slow global economic growth has a funny way of keeping a clamp on energy prices; Brent Crude oil and natural gas prices were flat or down throughout 2012, creating a headwind for earnings.

BP EPS Diluted TTM Chart

The low valuation for the sector is a signal the street is baking in more earnings pressure in the near term. But that same low valuation reduces downside risk and offers a compelling entry point for the patient investor. When economic growth picks up, so too will this entirely-cyclical sector. And there is some compensation for the patient minded in the form of dividend yield:

BP Dividend Yield Chart

Carla Fried, a senior contributing editor at ycharts.com, has covered investing for more than 25 years. Her work appears in The New York Times, Bloomberg.com and Money Magazine. She can be reached at editor@ycharts.com.

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