* Record start to year for inflows to European equities
* Region sucks up money fleeing emerging markets
* Stock prices, inflows only halfway back to 2007 levels
By Blaise Robinson
PARIS, March 10 After being shunned by investors for years, the euro zone is attracting global funds at the fastest pace ever as its economic recovery beckons those fleeing emerging markets.
Many investors, from Middle-Eastern sovereign funds to South American pension funds, deserted the currency bloc during its sovereign debt crisis.
But as money has fled countries such as Turkey and Indonesia this year, European stocks have attracted a record $36 billion so far in 2014, according to data from EPFR Global, with U.S. investors in the vanguard.
"Europe is about three years behind the United States. The recovery both in the macroeconomy and stock prices is lagging, that's why U.S. investors are coming in now," said Joseph Oughourlian, CEO of London-based hedge fund Amber Capital.
Not so long ago, U.S. and UK hedge funds were betting on the demise of the euro currency bloc.
But in December, Amber Capital launched a long-only fund dedicated to Southern Europe that was quickly oversubscribed and closed with 300 million euros ($414 million) invested.
Stronger economies are making the debt burdens of countries such as Italy and Spain look more manageable: their 10-year bond yields fell back to 2005 levels last week.
In signs that Spain has turned to face the exit from its 2008 property bust, investors including U.S. private equity firm Lone Star, Blackstone and Apollo Global Management have bid for a multi-billion-euro portfolio of Spanish property loans, and U.S. fund managers George Soros and John Paulson have sought stakes in a property vehicle set to list on Madrid's stock exchange.
HALF WAY THERE
According to EPFR, there were net redemptions of $166 billion from European equities between 2007 and 2012.
While the region's stocks have drawn inflows since early 2013, "European funds have only recovered about half of the cumulative outflows since 2007," said Alain Bokobza, head of strategy team, global asset allocation, at Societe Generale.
"It's very clear that the inflows into Europe are stemming from all the money coming out of emerging markets at the moment, and the trend is gathering pace. European funds are reaping the benefits of the many crises in emerging countries."
U.S. investors have been particularly keen, pouring money in the region's stocks for 36 straight weeks, according to Thomson Reuters Lipper, the longest streak of weekly inflows since Lipper started to monitor them in 1992.
Even in the seven-day period to March 5, when the crisis in Ukraine knocked European stocks, U.S.-based funds invested in European shares still drew $468 million in net inflows, contrasting with further big outflows from emerging markets.
"The movement corrects the fact that many fund managers were simply out of Europe," said Gilles Guibout, fund manager at AXA Investment Managers, which has 547 billion euros ($752 billion) under management.
"Most of the inflows we've seen so far have been coming from U.S. investors, while fund managers in the Middle East, Asia and also Latin American pension funds are just starting to move in, so there's still potential for more inflows," he said.
STILL CHEAP, CYCLICALLY?
Last year's sharp rally in European stocks has lifted their price-to-earnings ratio to about 14 times expected earnings, around their 15-year average.
But "relative to the profit cycle, European stocks are still attractive, which is one reason why the rally can go on," Banque Leonardo strategist Francois Chevallier said.
European corporate profits overall remain about 25 percent below their peak of 2008, while U.S. corporate profits are already well above their 2008 peak, according to Thomson Reuters Datastream data.
The blue-chip Euro STOXX 50 index has only recovered about half of the ground lost during the market rout of 2007-2009, strongly lagging Wall Street's sharp rebound.
While the U.S. S&P 500 trades at record highs, Milan's FTSE MIB stocks benchmark still needs to more than double to reach 2007 levels, Madrid's IBEX needs to rally 55 percent and Paris's CAC 40 40 percent.
"French stocks are almost as cheap as peripheral euro zone stocks, while credit conditions in France are extremely favourable," Amber Capital's Oughourlian said. "The fact that big companies are able to borrow money at real interest rates that are negative will have a much bigger impact on the companies' results than the macroeconomy."
Johannes Mueller, chief investment officer for Wealth Management Germany at DeAWM which manages 931 billion euros ($1.28 trillion), sees some of the euro economies that were hit hardest by the debt crisis becoming tougher competitors.
"We're seeing a relative rebalancing of risk, in favour of Europe, and we believe this trend is likely to continue."
However, analysts and fund managers still see plenty of political risks and scope for deeper economic change in Europe.
"Looking at the latest earnings season, companies have been quite cautious in their outlooks, and analysts are still trimming their forecasts," AXA IM's Guibout said.
"But all in all, global investors are far off what would be a 'neutral' level of geographical exposure, so there's lots of room for more subscription into European funds."