International markets: What can past events tell us about how international equities are priced today?
Oakmark is the mutual fund family launched in 1991 by Harris Associates, the Chicago deep-value firm founded in 1976 (about $105bn AUM). Bill Nygren runs the flagship Oakmark Fund and David Herro the Oakmark International Fund, buying businesses at large discounts to intrinsic value and holding them like owners — publishing quarterly fund commentaries, market commentaries and insight articles.
In plain words
This report says European stocks are much cheaper than U.S. stocks right now. Investors were scared about two things: a European gas crisis and rising interest rates. Neither turned out to be a disaster—European companies, especially global ones, kept earning well. European stocks trade at just 12.8 times earnings vs. 18.8 for the S&P 500. History shows that when stocks are this cheap, they often rebound. For ordinary investors, it suggests looking at Europe as a possible opportunity instead of chasing overpriced U.S. stocks. Worth reading because it uses data to calm common fears.
Oakmark Report Explores the Link Between Current International Equity Pricing and Historical Events The report argues that while macro themes—such as European natural gas prices and interest rates—triggered two drawdowns of approximately 20% in 2022–2023, these events are often disconnected from cor
Theme and Background
This chapter explores the correlation between current pricing in international equity markets and historical events. The report notes that the 2022-2023 market was dominated by two major macro themes (European natural gas prices and interest rates), but both shocks were disconnected from corporate fundamentals and ultimately disproven.
Core Thesis
The report's central judgment is that international equity markets are trading at a significant discount overall, with the greatest opportunity in Europe. The author argues that short-term volatility driven by macro themes (two drawdowns of approximately 20%) is irrelevant for long-term investors, as the European gas crisis did not materialize and the impact of interest rates was lower than expected. The counterintuitive point is that the widely feared European "deindustrialization" has not occurred, and European corporate fundamentals—especially for globally diversified multinationals—are actually undervalued.
Key Arguments and Data
1. European Gas Crisis Disproven:
- In September 2022, Russia cut natural gas supplies to Germany, Austria, the Czech Republic, and Poland by 90%, sending European gas prices to over 10 times their early 2021 levels.
- However, European companies and households adapted quickly by reducing demand and diversifying supply sources. Field research showed corporate cash flows remained resilient.
- Gas prices subsequently collapsed, and the MSCI Europe Index staged a strong rebound in the fourth quarter of 2022 as prices fell.
From May to December 2022, European equities and natural gas prices exhibited a significant negative correlation. The MSCI Europe Index rebounded to around 100 after gas prices fell from a high of €350/MWh.
2. Transient Nature of the Interest Rate Shock:
- In the summer of 2023, the market abruptly shifted from "lower-for-longer" to "higher-for-longer" interest rates. European equities fell 12% (in USD terms) between July 31 and October 27.
- At the end of October, the U.S. 10-year Treasury yield hit 5% (the highest since 2007), but rates then fell sharply, and European equities climbed again.
3. Historical Comparison and Valuation Discount:
- Over the 15 months from September 30, 2022, to December 31, 2023, the MSCI Europe Index rose over 44%, outperforming the S&P 500 (+36%) and matching the Nasdaq (+44%).
- The current NTM P/E of the MSCI Europe is only 12.8x, far below the S&P 500's 18.8x.
- The P/E discount of international equities relative to U.S. equities has doubled over the past five years, currently standing at approximately -30% (versus a historical average of -14%).
In the second half of 2023, as the U.S. 10-year Treasury yield fell from above 4.5% to around 3.8%, the MSCI World ex USA Index climbed from a low of 90 to above 105.
| Metric | MSCI Europe | S&P 500 |
|---|---|---|
| NTM P/E (End of 2023) | 12.8x | 18.8x |
| 15-Month Return (Sep 2022 – Dec 2023) | +44% | +36% |
| Relative P/E Discount (vs. S&P 500) | -30% | — |
4. Historical Catalysts: Current European valuation levels are consistent with the troughs seen in 1995 and 2019 (both periods when the Fed pivoted from rate hikes to a soft landing). In both instances, European equities subsequently experienced significant bullish expansions.
Companies/Assets Covered
Between 2007 and 2023, the NTM P/E discount of international equities relative to U.S. equities widened from -5% to -30%, significantly below the historical average of -14%.
- European Multinationals (luxury goods, global industrials, consumer goods companies): The report is bullish, arguing that their global operational nature is undervalued by the market and their cash flow resilience is overlooked.
- European Banks and Other Financial Institutions: The report is bullish, believing that the end of "lower-for-longer" interest rates will benefit these sectors, which have long been suppressed by low rates.
- MSCI Europe Index: As a benchmark for the European market, the report believes its current valuation offers a margin of safety.
- MSCI World ex USA / MSCI World ex USA Small Cap: As references for international equities, the report notes their widening discount relative to the U.S. market.
Investment Implications
- Directional Recommendation: Overweight European stocks, particularly globally diversified multinationals (luxury goods, industrials, consumer goods) and European banks. Avoid sector timing based on macro narratives (e.g., recession expectations) and instead focus on individual stock valuations.
- Risk Note: Do not simply extrapolate the U.S. market's strong performance of the past decade in a linear fashion. The discount on international equities may offer a mean-reversion opportunity.
- Specific Action: Capitalize on the current valuation trough of 12.8x P/E for European equities. In a historical context similar to past Fed pivots toward a soft landing, position for potential valuation expansion.