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Investing in Europe

Final Report Summary - EURO-INVEST (Investing in Europe)

Europe has not been hit this hard possibly since the second World War. The mortgage backed security crisis of 2008 quickly turned into a debt crisis of Europe by 2010. On one hand, there are millions of people suffering due to austerity measures, which result in severe cuts both in public and private spending, on the other hand, there are economies which find it extremely hard to grow.
Unfortunately, there is a big dilemma and a self-fullfilling prophecy regarding this huge economic crisis. The problem of Europe is simple. There are staggering national debts of European countries, there are huge budget deficits, and shrinking economies do not supply enough money to the system. What is urgently needed is attracting investment to the Eurozone (especially in the absence of credit from the banking sector). However, to pay their national debt, governments need to cut spending, which in turn, sharply cuts into the growth of the companies, and which in turn, stops investment to the Eurozone due to lack of confidence. This is a deadly loop, which proves harder by the day to get out of. There is one point, which every economist and academic agrees on; that is, Eurozone needs investment that will flow into private companies. However, investors worldwide have other options such as investing in emerging countries. Even though there is no academic rationale, investors put significant amount of their investment to the Emerging economies, rather than where it is needed: Europe. Main goals of this project were summarized in 5 general items. 3 of these items are achieved in the first half of this project’s life-time. During the second half of the project more than the remaining 2 items are achieved.
We ask fundamental questions regarding the practice of investing in Developed versus Emerging Markets. Do any one of the index investment dominates the other indices? Even if European equity market indices are dominated by other investments (such as the investments in Emerging Markets), are there certain companies in these European Markets, which would dominate alternative investments? If there are certain companies which dominate alternative investments (even if the index they are listed in is being dominated), what are the certain characteristics of these companies? And finally, do those characteristics change after the crisis year of 2008? We find clear and concise answers to these questions. We consider six indices: World, Emerging and Developed indices as well as World excluding US, World excluding EMU (European Monetary Union) and Europe-EMU-only indices. At short investment horizons, none of these indices dominate one another in an Almost Dominance sense. However, at a 5-year investment horizon, Emerging market index dominates all other indices. Hence, it seems that an index investor would be better of investing in Emerging Markets index rather than Developed Market or EMU index.
Stock indices in the Eurozone might well be dominated alternatives, but this does not mean that every security listed in these indices is an inefficient alternative. We use more than 144 Million daily data points of 64,051 stocks from 51 countries and show that investors excessively penalized securities in the Eurozone during the crisis period. In each country and at various investment horizons, we determine securities that dominate several regional indices.
We show that on average 10% of the securities World-wide dominate the World index and 8% of them dominate the Emerging market index. 11.6% (6%) of the securities in EU and EMU countries dominate the World index (Emerging market index). Hence, there are certain securities in European developed markets which dominated investments in alternative markets. In EMU and/or EU countries, securities that have bigger market capitalization, higher Price-to-Book ratios, higher Return on Equity and Return on Invested Capital, lower Dividend Yield, and lower Price-to-Earnings dominated alternative investments such as Emerging market investments.
We emphasize that the securities with those certain characteristics continued to dominate alternative investments both before and after the crisis period (2008). We conclude that unloading EU or EMU securities during the crisis period helped self-fulfil the prophecy of the European crisis.
In addition to those results which are disseminated in a stand-alone working paper titled "Investing in Europe", a separate paper of ours uses the utility-based nonparametric approach of Almost Stochastic Dominance and the utility-based parametric measure of Manipulation Proof Performance Measures to determine which hedge fund strategies outperform the equity and/or bond markets. The results from the realized and simulated return distributions indicate that the Long/Short Equity Hedge and Emerging Markets hedge fund strategies outperform the U.S. equity market, and the Long/Short Equity Hedge, Multi-strategy, Managed Futures, and Global Macro hedge fund strategies dominate the U.S. Treasury market.
Finally, two survey papers have achieved a detailed literature review of empirical research in Emerging Markets. Three additional papers have used the extensive data that has been downloaded and cleaned for the main research project.
final1-investing-in-europe.docx