It's a big world, folks—own it! Photo by Buyenlarge/Getty Images.
New research says international investors own more US stocks than ever. America outperformed all but one developed-world market last year. A certain index-fund guru says he “wouldn’t invest outside the US.” US economic growth is leading the developed world. Perhaps this has you wondering: Should I forget foreign and own US stocks only? But tempting as that might be, we think it’s unwise. Diversification matters, and leadership flip-flops.
Some see America’s higher cumulative longer-term performance and suggest US stocks are superior. However, this is skewed by the recent past. As Exhibit 1 shows, US and foreign returns were basically equal as of September 2011 (circled). In 2006 and 2007, many thought foreign markets (and particularly Emerging Markets) were perma-best. Foreign stocks had higher cumulative returns through much of the US-dominated 1990s bull. Trends don’t last forever.
Exhibit 1: US Vs. Foreign Since 1970
Source: FactSet, as of 1/12/2015. S&P 500 Total Return Index and MSCI EAFE Index with net dividends, 12/31/1969 – 12/31/2014. Circle indicates last point of zero difference in cumulative return.
Exhibit 2 shows flip-flopping leadership a different way—the difference between US and foreign returns annually since 1970. America led in 20 of 45 years—essentially a coin flip.
Exhibit 2: US Vs. Foreign Stock Performance by Calendar Year
Source: FactSet, as of 1/7/2015. MSCI USA and MSCI EAFE indexes, inclusive of dividends (and net of withholding taxes for the MSCI EAFE), 12/31/1969 – 12/31/2014.
Even when the US outperforms foreign stocks overall, that doesn’t mean America beats every country, as Exhibit 3 shows. The US has never been the MSCI World Index’s top-performing country! Now, take that with a grain of salt, as some countries have far fewer companies. Last year, for example, Israel was tops—but the MSCI Israel has nine companies and 70% of its market capitalization is Teva Pharmaceuticals.[i] But bigger countries frequently lead, too, and the US is often in the middle of the pack. Not inherently inferior! But US outperformance doesn’t mean other countries lack opportunities.
Exhibit 3: America Has Never Been First
Source: FactSet, as of 1/12/2015. Annual returns for every country in the MSCI World Index, inclusive of dividends (and net of withholding taxes for non-US indexes), 12/31/1969 – 12/31/2014.
Still not convinced? The final 10 charts show 10-year trailing returns for the MSCI World Index’s current 24 constituents as of year-end in each of the last 10 years. From 2005 - 2014, the US was fifth-best. But from 1998 - 2007, America was third from last.
Exclude non-US stocks, and you exclude every opportunity outside America—a huge blind spot. Diverse as our economy is, sometimes trends just favor other countries. Ditto for political drivers. What if Hong Kong gets a boost from Chinese reform? What if regulatory clarity boosts Britain? What if eurozone sentiment improves? A global portfolio also helps you limit risk. What if gridlock went away here? What if growth badly missed expectations? Investing globally is the answer to all these what-ifs.
It’s always tempting to chase heat, especially as maturing bull markets grind higher. And particularly when it might be your home country! But diversification is always vital, and a US-only portfolio isn’t as diverse as a global one. It might give you exposure to every sector, but it would ignore about half the world’s market cap and wouldn’t diversify any of its political or legislative risk.[ii] Limiting yourself simply because America has done great lately is a fool’s errand.
Exhibit 4: The Evolution of 10-Year Trailing Returns, by Country
Source: FactSet, as of 1/12/2015. 10-year trailing returns for every country in the MSCI World Index, inclusive of dividends (and net of withholding taxes for non-US indexes), as of year-end, for the years 2005 – 2014.
Stock Market Outlook
Like what you read? Interested in market analysis for your portfolio? Why not download our in-depth analysis of current investing conditions and our forecast for the period ahead. Our latest report looks at key stock market drivers including market, political, and economic factors. Click Here for More!
[i] Source: FactSet, as of 01/12/2015.
[ii] Admittedly, this is less of a factor in a gridlocked scenario like the present. But we are talking over the longer term here, friends.