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Global Equity Strategy

May 19, 2015

Sean Lynch, CFA®, Co-Head of Global Equity Strategy

Analysis and outlook for the equity market

  • In international developed equity markets, one of the key drivers of healthy corporate performance—revenue growth—appears to be improving.
  • Rising European revenue growth leads us to believe there is a more sustainable economic recovery underway.

What it may mean for investors

  • Ultimately, equity markets should be driven by fundamentals, and they are generally improving in Europe. We remain overweight on international developed-market equities.

Revenues Expected to Dictate Developed-Market Recovery

Revenue growth remains quite challenging in many parts of the world, especially in the United States. For the first quarter, U.S. large-cap company earnings exceeded expectations—albeit lowered ones—but revenue growth remained modest. For the S&P 500 Index, first-quarter revenue growth was only 3.3 percent on a year-over-year basis.

European markets have long been plagued by weak revenue growth. However, they are now beginning to see some of the best top-line increases in more than eight years. Based on companies that have reported sales in the first quarter, year-over-year revenue growth in Europe has exceeded eight percent in local currency terms.1 It is the return of rare revenue growth in this part of the world that leads to our optimism about developed-market equities. We believe that revenue growth is often a better sign of improving economic health than earnings growth. Why is this? Clearly, earnings targets often can be met through cost cutting or financial engineering. Growth in revenues leads us to believe that there is a more sustainable recovery underway, not only in exports—but in internal domestic demand as well. In this Global Equity Strategy Report, we review data on first-quarter earnings and revenue growth, what that means for the markets and what impact it has on positioning of portfolios.

Developed-market earnings and revenue—a closer look

For the MSCI European Economic and Monetary Union (EMU) Index, more than 80 percent of companies have positively surprised on sales and 56 percent have surprised on earnings this past quarter.2 These are healthy beats in any market—but when compared with the S&P 500 Index for which only 46 percent surprised on revenues but a healthier 72 percent exceeded earnings expectations— they look impressive on a top-line basis. Revenue growth in Europe reflects improved confidence on the part of consumers and also from businesses willing to invest. It has been quite some time since the words "confidence" and "invest" have been used in the same sentence to describe Europe. We expect some bumps along the way to recovery—as in several recently poor European readings on economic surprises. However, from a long-term perspective, we believe that the trend appears favorable, and that European revenues are beginning an upward ascent.

A weak euro has helped to contribute to European revenue growth, as exports have been supported by currency trends relative to the U.S. dollar. The same is true of the Japanese yen and Japanese revenue growth. The exporters in Europe and Japan have not been the only group to benefit from a weak currency. Europe also has attracted many foreign buyers into its markets as opportunistic shoppers have capitalized on the weak euro. For example, European luxury goods makers have commented that sales to Chinese buyers recently have benefited sales. This has helped to drive impressive European retail sales. As shown in Chart 1, year-over-year sales growth has delivered steady increases. Automobile sales in Europe (and Japan) also are reflecting strong results. We recently upgraded our 2015 GDP growth forecast for Europe to 1.5 percent from 1.3 percent—largely reflecting the traction that we believe the economy is gaining in the region.

Chart 1. Eurozone Retail Sales Growth (Year-Over-Year): 2010-2015
 Chart 1. Eurozone Retail Sales Growth (Year-Over-Year): 2010-2015
Source: Bloomberg, 5/19/15.

Investment Implications

We continue to believe that investors should be favorably positioned toward international developed-market equities— and we are overweight on this equity class. Greece and an unsettled European bond market remain worrisome overhangs.3 Further, European equity valuations also have expanded. The trailing 12-month price-earnings (P/E) ratio for the MSCI EAFE Index is currently 18.3 times, which is slightly above the long-term median of 17.9x. The current MSCI EAFE Index valuation stands at 17.4 times our 2015 earnings estimate. While valuation remains important, revenue growth is a key barometer to watch for international developed companies. As we have seen with U.S. companies, it is difficult to find ongoing sources of revenue growth, particularly when currency trends are challenging. This calls for selectivity. Yet, in Europe, the strong number of revenue beats in the first quarter and firming economic trends give us reason to accept slightly higher valuations in the region. Ultimately, equity markets should be driven by fundamentals, and in the developed world, one of the key drivers of corporate performance; that is, revenues, appears to be improving.

Weekly Wrap and Look Ahead

All major domestic and international indices were positive for the week and year to date.

Index Last week's performance1 2015 YTD performance
S&P 500 +0.3% +2.8%
DJIA +0.4% +2.1%
NASDAQ +0.9% +5.6%
Russell 2000 +0.7% +2.5%
MSCI EAFE +1.4% +11.5%
MSCI Emerging Markets +0.6% +9.5%

1 For the week of May 11 – May 15, 2015
Sources: Bloomberg, Wells Fargo Investment Institute, 5/18/15.

Four of 10 S&P 500 Index sectors outperformed the Index while six of 10 managed to gain ground for the week.

Best Performing Sectors Last week's performance2 Worst Performing Sectors Last week's performance2
Consumer Staples +1.2% Energy -1.7%
Health Care +1.1% Materials -0.3%
Industrials +0.8% Financials -0.2%

2For the week of May 11 – May 15, 2015
Sources: Bloomberg, Wells Fargo Investment Institute, 5/18/15.

With the first-quarter earnings season over and results exceeding the estimates of most analysts, attention is now turning to economic growth in the second quarter—and whether or not Greece will be able to make a deal with its creditors.

We continue to forecast that the domestic economy will grow by 2.8 percent this year—better than last year’s 2.4 percent growth, but still below the long-term trend of approximately 3.1 percent. Much like last year, we expect that GDP growth will improve as the year progresses. We look for that economic growth to push corporate earnings to another record high in 2015. Based on our work, the consensus estimate was not only too low in the first quarter—but is likely to be too low in the remaining quarters of the year as well.

For U.S. economic data, this week, the markets will be keeping a close eye on housing data (existing home sales and housing starts) as well as regional manufacturing data (Empire State and Philadelphia Federal Reserve surveys). Leading Economic Indicators (LEI) data also is due to be released. We expect this week’s reports to continue to confirm the modest growth and modest inflation outlook that we have been projecting. The U.S. economy is moving ahead at a slow pace, and we expect that pace to modestly accelerate in the coming quarters.

In our opinion, this cyclical bull market still offers more upside. We are comfortable with our year-end S&P 500 target range of 2150-2250. We are still biased toward the top end of that range, which would equate to a total return of approximately 10 percent for this year.

Sector S&P Weighting* Wells Fargo Investment Institute Guidance
Consumer Discretionary 12.5% Overweight 13.4%
Consumer Staples 9.5% Underweight 8.5%
Energy 8.0% Neutral 8.0%
Financials 16.3% Neutral 16.5%
Health Care 14.9% Neutral 14.8%
Industrials 10.3% Overweight 11.6%
Information Technology 20.0% Overweight 21.8%
Materials 3.2% Neutral 3.0%
Telecom Services 2.2% Neutral 2.4%
Utilities 2.9% Underweight 0.0%
S&P 500 earnings estimate for 2015 $128.00
S&P 500 year-end 2015 target range 2,150-2,250

*Sector weightings may not add to 100% due to rounding. Weightings as of 5/15/15 close.
Sources: Wells Fargo Investment Institute, Bloomberg, 5/18/15.

1 MSCI EMU (European Economic and Monetary Union) Index, Bloomberg, 5/18/15. Capitalization-weighted data.
2 MSCI EMU (European Economic and Monetary Union) Index, Bloomberg, 5/18/15.
3 Wells Fargo Investment Institute Global Investment Strategy Report, 5/4/15, "Does Greece Still Pose a Risk to Global Financial Markets?"

Sean LynchAbout Sean Lynch

Sean Lynch is the co-head of global equity strategy for Wells Fargo Investment Institute (WFII), an organization that provides global manager research and investment strategy advice to Wells Fargo’s Wealth, Brokerage, and Retirement (WBR) division. WBR is comprised of Wells Fargo Private Bank, Wells Fargo Advisors, Wells Fargo Institutional Retirement, and Abbot Downing businesses, accounting for more than $1.6 trillion* in assets under administration.

In his current role, Mr. Lynch is responsible for developing global equity strategy and oversees proprietary equity strategies as well as the equity trading desk. He has represented Wells Fargo to the media on numerous occasions, providing insights and perspectives on the global markets. He has also written extensively about global issues and the implications on client portfolios, appearing in Bloomberg, The Wall Street Journal, USA Today, Money, and on CNBC.

Mr. Lynch has been with Wells Fargo for 17 years. Prior to his current role, he served as a global investment strategist for Wells Fargo Private Bank. He has traveled extensively internationally—from Asia to South America to Europe—to gather firsthand knowledge and information, and has shared his observations and perspectives with clients and team members. He has been in the investment management and trust industry for 24 years.

Mr. Lynch earned a Bachelor of Science in Business Administration, specializing in Accounting and Finance, from the University of Nebraska-Omaha. He is a CFA® charterholder and a former president of the Omaha-Lincoln Society of Financial Analysts. Mr. Lynch is located in Omaha, Nebraska.

*As of Sept. 30, 2014

Risk Factors

Past performance is no guarantee of future results.

There is no assurance that any of the target prices or other forward-looking statements mentioned will be attained. Any market prices are only indications of market values and are subject to change.

Investing in foreign securities presents certain risks not associated with domestic investments, such as currency fluctuation, political and economic instability, and different accounting standards. This may result in greater share price volatility. These risks are heightened in emerging markets.

Technology and Internet-related stocks, especially of smaller, less-seasoned companies, tend to be more volatile than the overall market.

An index is unmanaged and not available for direct investment.

S&P 500 Index is a market capitalization-weighted index composed of 500 widely held common stocks that is generally considered representative of the US stock market. The Index is unmanaged and not available for direct investment.

Dow Jones Industrial Average is a price-weighted average of 30 significant stocks traded on the New York Stock Exchange and the Nasdaq.

Nasdaq Composite Index A market-capitalization weighted index of the more than 3,000 common equities listed on the Nasdaq stock exchange. The types of securities in the index include American depositary receipts, common stocks, real estate investment trusts (REITs) and tracking stocks. The index includes all Nasdaq listed stocks that are not derivatives, preferred shares, funds, exchange-traded funds (ETFs) or debentures.

Russell 2000® Index measures the performance of the 2,000 smallest companies in the Russell 3000® Index, which represents approximately 8% of the total market capitalization of the Russell 3000 Index.

MSCI EAFE® Index (Europe, Australasia, Far East) is an unmanaged group of securities widely regarded by investors to be representations of the stock markets of Europe, Australasia and the Far East.

MSCI Emerging Markets Index is a free float-adjusted market capitalization index that is designed to measure equity market performance of emerging markets. The Index consists of the following 21 emerging market country indices: Brazil, Chile, China, Colombia, Czech Republic, Egypt, Greece, Hungary, India, Indonesia, Korea, Malaysia, Mexico, Peru, Philippines, Poland, Russia, South Africa, Taiwan, Thailand, and Turkey as of November 2013.

The MSCI EMU Index (European Economic and Monetary Union) captures large and mid-cap representation across the 10 developed-market countries in the EMU. With 240 constituents, the index covers approximately eight percent of the free-float-adjusted market capitalization of the EMU.


Global Investment Strategy ("GIS") is a division of Wells Fargo Investment Institute, Inc. ("WFII"). WFII is a registered investment adviser and wholly-owned subsidiary of Wells Fargo & Company and provides investment advice to Wells Fargo Bank, N.A., Wells Fargo Advisors and other Wells Fargo affiliates. Wells Fargo Bank, N.A. is a bank affiliate of Wells Fargo & Company.

The information in this report was prepared by the GIS division of WFII. Opinions represent GIS’ opinion as of the date of this report and are for general informational purposes only and are not intended to predict or guarantee the future performance of any individual security, market sector or the markets generally. GIS does not undertake to advise you of any change in its opinions or the information contained in this report. Wells Fargo & Company affiliates may issue reports or have opinions that are inconsistent with, and reach different conclusions from, this report.

This report is not intended to be a client-specific suitability analysis or recommendation, an offer to participate in any investment, or a recommendation to buy, hold or sell securities. Do not use this report as the sole basis for investment decisions. Do not select an asset class or investment product based on performance alone. Consider all relevant information, including you existing portfolio, investment objectives, risk tolerance, liquidity needs and investment time horizon.

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