By Randy Farina, Senior Portfolio Manager
The 10-year market performance of the United States and international markets has had an alternating relationship since the 1970s.1 If international equities were the outperformer in a given decade, we would typically see the U.S. as the outperformer in the following decade.
Keeping this oscillating pattern in mind, we’ve seen a dramatic outperformance of the S&P 500 over the last 10-12 years.2 The S&P 500 Index and the MSCI ACWI ex USA Index are experiencing one of the widest spreads of U.S. outperformance on record, with the S&P 500 outperforming by 7.59% annually.1 Looking under the hood, this prolonged U.S. outperformance has been driven by two main factors: stronger economic growth and developments in information technology.
Since the great financial crisis, the U.S. has seen a GDP growth rate of 2%-3% on average, whereas Europe and Japan have hovered near zero.3 The perception has been that the U.S. was the place to invest in thanks to low interest rates, strong economic growth and companies that saw a high return on capital, including Google, Apple, Meta, Amazon, etc. All of the factors that drive markets — fundamentals, valuation and sentiment — were positive for the U.S.
Now, however, we could see the pendulum swing the other way, and a case can be made that the U.S. is in a less favorable financial situation than a decade ago.
Markets are placing substantial value on U.S. equities, with earnings trading at 20x and outpacing the rest of the world.4 This can be attributed to the domination of technology names in the S&P 500 that have outperformed in the last decade; less than 10 companies are responsible for the gains we’ve seen this year.5 As a result, these sky-high valuations have created greater concentration and, thus, more risk.
While technology and consumer discretionary carry around 50% weighting of the S&P 500, those sectors represent only around 20%-25% of international markets.6 Of course, the tech rallies this year have been exciting, but buyers should beware: Historically, higher-valued assets experience lower returns (and vice versa) in future years.
We’re now in a position where some of the economic imbalances between U.S. and international markets that existed a decade ago are less significant. With time, Europe has healed a lot of its economic woes — particularly the sovereign debt issues during the “PIIGS” (Portugal, Italy, Ireland, Greece and Spain7) crises of 2011-2012 and 2014-2015 — and is in much better fiscal shape now. Combining international markets’ healthy valuations and a better economic backdrop, we could be set up for a cycle of outperformance for internationals, as historical trends demonstrate.
Investors may want to reexamine their allocations to international and U.S. markets to ensure they are well-positioned for the next decade. As always, however, investments come with risks and internationals are no exception. Namely, we could see the U.S. sustain its economic breakout; the AI-driven world/economy could continue to benefit the U.S.-led players in technology and communications, while international growth may stall. Additionally, with Europe’s reliance on Russian oil and gas, there is a supply risk due to rising geopolitical tensions.
On the other hand, mitigating the concentration of the S&P 500 by adding a non-U.S. piece to a portfolio can lower risk profiles. And an escalation of geopolitical risk between the U.S. and China could devastate the U.S. economy because of its reliance on Chinese manufacturing capacities.8
As investors, we must weigh these risks and benefits and assess what aligns with our financial goals. If you have any questions about your allocation to international markets, please feel free to reach out: firstname.lastname@example.org.
- DFA Returns (data as of 4/23) — S&P 500, MSCI EAFE, and MSCI ACWI ex US index returns
- Yahoo! Finance (data as of 6/28/23) — S&P 500 index
- Macrotrends (data as of 6/28/23) — U.S. GDP growth rate 1961-2023
- YCharts (data as of 6/28/23) — S&P 500 P/E ratio
- Axios (5/31/23) — The S&P 500’s gains are almost entirely from just five companies
- BlackRock (data as of 6/28/23) — iShares MSCI ACWI ex U.S. ETF
- Investopedia (7/22/22) — What are PIIGS and the link with European debt crisis
- The Wall Street Journal (5/31/23) — U.S. manufacturers seek China alternatives as tensions rise
PAST PERFORMANCE IS NOT AN INDICATION OF FUTURE RETURNS. Information and opinions provided herein reflect the views of the author as of the publication date of this article. Such views and opinions are subject to change at any point and without notice. Some of the information provided herein was obtained from third-party sources believed to be reliable but such information is not guaranteed to be accurate. In addition, the links provided within are for convenience only and the provision of the links does not imply any sponsorship, endorsement, or approval of any of the content. We do not guarantee the content or its accuracy and completeness. The content is being provided for informational purposes only, and nothing within is, or is intended to constitute, investment, tax, or legal advice or a recommendation to buy or sell any types of securities or investments. The author has not taken into account the investment objectives, financial situation, or particular needs of any individual investor. Any forward-looking statements or forecasts are based on assumptions only, and actual results are expected to vary from any such statements or forecasts. No reliance should be placed on any such statements or forecasts when making any investment decision. Any assumptions and projections displayed are estimates, hypothetical in nature, and meant to serve solely as a guideline. No investment decision should be made based solely on any information provided herein and the author is not responsible for the consequences of any decisions or actions taken as a result of information provided in this book. There is a risk of loss from an investment in securities, including the risk of total loss of principal, which an investor will need to be prepared to bear. Different types of investments involve varying degrees of risk, and there can be no assurance that any specific investment will be profitable or suitable for a particular investor’s financial situation or risk tolerance. Exencial Wealth Advisors, LLC (“EWA”) is an investment adviser registered with the Securities & Exchange Commission (SEC). However, such registration does not imply a certain level of skill or training and no inference to the contrary should be made. EWA may only transact business in those states in which it is registered, notice filed, or qualifies for an exemption or exclusion from registration or notice filing requirements. Complete information about our services and fees is contained in our Form ADV Part 2A (Disclosure Brochure), a copy of which can be obtained at www.adviserinfo.sec.gov or by calling us at 888-478-1971.
The S&P 500® is widely regarded as the best single gauge of large-cap U.S. equities. There is over USD 9.9 trillion indexed or benchmarked to the index, with indexed assets comprising approximately USD 3.4 trillion of this total. The index includes 500 leading companies and covers approximately 80% of available market capitalization.
The MSCI EAFE Index is an equity index which captures large and mid cap representation across 21 Developed Markets countries* around the world, excluding the US and Canada. With 844 constituents, the index covers approximately 85% of the free ﬂoat adjusted market capitalization in each country.
The MSCI All Country World Index (ACWI) is a stock index designed to track broad global equity-market performance. Maintained by Morgan Stanley Capital International (MSCI), the index comprises the stocks of nearly 3,000 companies from 23 developed countries and 25 emerging markets. Fund managers use the MSCI ACWI as a guide for asset allocation and a benchmark for the performance of global equity funds. The index is also used as the basis for creating investment products such as exchange-traded funds (ETFs).