Over the past several years, the performance of international markets has trailed the markets in the United States. Will the trend continue this year?
So far, in 2017, international markets are outperforming domestic markets, and you may wonder whether now is the time to allocate a portion of your portfolio to international holdings. We believe the short answer is yes, and we increased allocations to markets outside the US earlier this year. Here are some reasons we made this change.
Many opportunities outside the US
Over half of the world’s investing opportunities are based outside the United States. Major multi-national corporations, like Nestle and Royal Dutch Shell, are examples of large companies headquartered outside the US. Look at the products in your home you use every day. Where was your television or your computer made? What type of car do you drive? Did you know Toyota and Volkswagen were the world’s top two largest automakers in terms of sales for 2016, ahead of General Motors?
Many of the world’s fastest growing economies are located outside the US too. Confining your investments to the United States limits your opportunities to invest in innovative and successful companies operating in several countries.
While there are times when the US markets outperform, those are typically followed by periods when international markets outperform. Over time, we’d expect these markets will have about the same performance. We can compare the S&P 500 Index (a measure of large-cap US stocks) with the MSCI EAFE Index – a core index for tracking stocks of developed foreign markets.
Since 1970, on a calendar year basis, the S&P 500 Index has outperformed the MSCI EAFE Index in 24 out of 47 years or 51% of the time. On a rolling three- and five-year basis, it was virtually a dead heat at 50% for each. At the seven-year interval, the US has outperformed 48% of the time. It looks like a coin flip to see which markets outperform over shorter and longer timeframes.
Looking at a variety of today’s valuation metrics, international and emerging market stocks look “cheaper” than US stocks. While this is not a great sign these markets will immediately outperform, investors are frequently rewarded over five- to ten-year periods when valuations differ by these numbers. (Remember: sell high, buy low?)
The correlation between US large cap stocks and both developed international equities and emerging market equities has narrowed in recent years. This is likely due to the continued globalization of world economies. The reality is the markets do not move in tandem with one another and can provide investors a measure of diversification.
As a US investor investing in foreign equities, your return has two components. One is the gains or losses on the individual stocks, bonds, or funds you own. The other is the gains or losses in the foreign currencies relative to the value of the US dollar. Currency fluctuations are a wash over time, but they add some additional diversification benefits to an investment portfolio.
It is common for many investors to want their money “close to home.” But by ignoring international investments, these investors are shortchanging themselves. Over half of the total investing opportunities are outside the United States. International investments can provide diversification and growth opportunities for investors.
Do you have the right amount of international holdings in your investment portfolio? Give me a call at (949) 441-4410 to discuss.