CHICAGO – Investors looking for returns in the developed world should pass on Europe, say experts, who back Japan instead.

Ben Inker, co-head of GMO's asset allocation team, puts it bluntly when it comes to Europe. “You got to hold your nose," he said at the Morningstar Investment Conference on Thursday. Even seemingly cheap investments in Europe tend to be more cyclical, more leveraged and more dependent on Europe's economy.

"They are cheap for a reason," Inker told attendees.

Despite some good buys in the oil sector, Dennis Stattman, a portfolio manager and head of global asset allocation for BlackRock's Multi-Asset Strategies Group, remained pessimistic about Europe's prospects. While the ECB calmed fears over another banking crisis, he argued at the conference that Europe’s economies are still weak, and structural problems persist.

“It has not solved the underlying problem of governments that promise too much, tax too little and who don't have a match between their fiscal policies and the monetary policy offered by the ECB,” he said. “There's a dysfunctional structure there that hasn't been solved and that is going to prevent us from getting too bullish about the situation."

Stattman also seeks protection from seemingly unsustainable social contracts in developed nations. "The unwillingness of governments to reach a sustainable fiscal policy is one reason to have a little bit of gold in your portfolio," he argued.


Stattman singles out Japan as a positive opportunity.

"There's a lot to like in Japan. I don't think there's anything else like the Japanese equity market. Japan offers value and a very supportive monetary policy. It has the possibility, if not the probability of real structural reforms. You have cooperative corporations behaving in a much more shareholder friendly manner," he said.

The Nikkei 225 index rose more than 52% in 2013, in part due to the policies of Prime Minister Shinzo Abe, who won election in December 2012. Abe is pursuing economic reforms in Japan. However, the Nikkei's performance this year has been lackluster. Valuations and monetary policy are keeping Stattman optimistic on Japan.

"If you look at the Japanese stock market versus (the) U.S. market, it's very rare for the Japanese stock market to sell at a P/E discount to the U.S. But it does today," said Stattman. "Instead of having something major going wrong, Japan has a bunch of major stuff going right."

He added, "We think this is a multi-year bull market that is still in its early stages."

Inker, at the same time, remains somewhat cautious. Japanese companies are not as profitable, as he would like, and have lower ROE.

"The tricky thing about Japan today is that profitability stinks compared to anywhere else in the world. If you think they can become like normal companies, then they're priced really well," Inker said. "Are we going to get the behavior by corporate management that will allow that?"

Japanese corporate management show signs of behavioral changes, countered Stattman, and he reiterated that there are many positives in the investing environment. When asked if he was concerned the Japanese government might not complete its proposed reforms, Stattman claimed a double standard was in play.

"What about America? How about our structural reforms? Which ones are they? Where are they? The standard the Japanese are supposed to meet seems to be a wildly different standard," he argued. "Why does the case for Japan have to be impeccably better than a market that sells at much higher valuation levels?"

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