by Dan Burrows | September 10, 2013 6:15 am
After six consecutive and abysmal quarters of contraction, the economy of Europe has at long last returned to growth.
That’s a big deal.
Taken together, the 28 countries of the European Union constitute the largest economy in the world. And its year-and-a-half stretch of relentless recession has been a huge drag on global demand, hitting everything from Alcoa’s (AA[1]) aluminum prices to sales of Big Macs at McDonald’s (MCD[2]).
True, the upturn in gross domestic product was tiny, at just 0.4%. But it appears to reflect a turning point — one that the smart money is betting on big time.
As we noted recently, some terrific blue-chip European equities are on sale[3] — and attracting lots of expert attention. Indeed, legendary value investor Bill Nygren scours the globe sussing out bargains suitable for his five-star Oakmark Global Select Fund (OAKWX[4]) — and guess what? More than 40% of Nygren’s portfolio is currently allocated to European stocks.
But if you’re looking to squeeze some outperformance from a bet on European recovery, then an allocation to small-cap stocks makes a lot of sense. Not only do small caps outperform in a rising market, but they have fundamental tailwinds too.
After all, European small-cap stocks derive far more of their revenue from their own regions — as much as 75% t0 80% — than their multinational counterparts. And since most EU trade takes place between European countries and regions, small-cap companies should get outsized benefits from the return of growth.
The best way to gain cheap, diversified exposure to European small-cap stocks is through exchange-traded funds. Here are the best ETFs to bet on a return of European domestic demand:
Performance Notes: This equity income ETF generates an attractive yield by any measure, but it’s especially generous when you consider that we’re talking about small-caps here, which usually plow cash back into expanding their businesses. DFE has delivered a total return of more than 20% so far in 2013, according to data from Morningstar, beating the Europe stock benchmark by 10 percentage points. Top holdings include Logitech (LOGI[6]) and Drillisch (DRHKF[7]).
Performance Notes: Germany is the locomotive pulling the European Union and eurozone out of recession. But even Germany needs demand to pick up from its neighbors and — happily — that appears to be the case. EWGS’s top holdings include Symrise (SYIEY[9]), which sells flavors and fragrances to the food and perfume industries, and payments processor Wirecard (WRCDF[10]). An uptick in the economy has helped EWGS deliver a total return of 17% for the year-to-date, outpacing the Europe stock benchmark by 7 percentage points.
After Germany, the U.K. has been doing its own heavy lifting in pulling the EU out of its prolonged malaise. The British economy avoided the much-feared triple-dip recession, and that helped U.K. stocks go on a huge summer rally. EWUS has delivered a total return of more than 22% so far this year, beating the benchmark by about 12 percentage points. Oh, and that yield of more than 2.8% is awfully compelling for a portfolio of smaller companies. Top holdings include ASOS (ASOMF[12]), an online fashion retailer, and homebuilder Taylor Wimpey (TWODF[13]).
As of this writing, Dan Burrows did not hold a position in any of the aforementioned securities.
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