For much of the past decade, U.S. stocks have been on a tear, outpacing foreign investments in most major markets. But with U.S. shares reaching lofty valuations and fundamentals firming up in many other countries, financial advisors would be wise to consider adding an international allocation or increasing a client’s non-U.S. holdings.
While investors are influenced by the facts and reality of the current investing landscape, mythical thinking can also drive investor behavior. Here are 4 myths or misunderstandings I have noticed that advisors hold onto when it comes to investing outside of the U.S.
Myth 1: The U.S. market always outperforms international markets
With strong performance and a strong dollar, U.S. stocks widely outpaced foreign competitors over the past ten years. But that is not always the case.
Over the last 5 decades, the picture is very mixed. International markets have the slight majority, outperforming the U.S. in 26 of those 50 years. When measured decade by decade, international markets have outperformed 3 of the last 5.
From 2000-2009, the “Lost Decade” of the Global Financial Crisis, the tables turned decisively. Looking at returns in local currencies, China’s index returned 164%, or 10% per year, while Europe, Japan, and the U.S. all had negative returns over the entire 2000-2009 decade.
But because of a weak greenback, MSCI Europe Index returns jumped from -11% to +27% for the decade when returns were calculated in dollars and the Shanghai Stock Exchange Index increased from 164% to 220%, an improvement of over 2%/year.
Myth 2: The best businesses and CEOs in the world are in the U.S.
It is easy to see why U.S. investors may have a bias toward U.S. companies. From Nike, Walmart and Disney, to Microsoft, Apple, Facebook and Amazon, the U.S. has produced numerous iconic companies.
But there is no “American exceptionalism” of CEO talent. In its most recent ranking of the World’s Top 100 CEOs, the Harvard Business Review found a broad global dispersion of top
CEOs and management teams. Using a quantitative evaluation process, the HBR ranked performance based on how much shareholder value CEOs have produced starting with their first day on the job.
The study found just 37 of the top 100 CEOs are at U.S. companies; of the top 20, only nine are American, with a concentration in U.S. tech companies. Non-U.S. CEOs tend to be from a more diversified group of companies, providing investors with a broader universe of companies to invest in.
Myth 3: The European economy is lagging so there is no need to invest there
Advisors and their clients often assume that investing in a company is linked to the economic condition of the country or region it is domiciled in.
Not so, according to our research. We recently looked at the top 100 European stocks by market cap and found that the median sales exposure to the European market was just 39 percent. In other words, over 60 percent of the company’s revenue is earned outside of Europe.
Well-run companies are more than the countries in which they are based. At Shelton Capital Management, we have invested in firms that have zero revenue in their native country. In fact, investing in large-cap international companies means investing in multi-national companies and it is very rare to find one (outside of banks) that is only doing business in one country or region.
Myth 4: The U.S. market is the strongest because it is the healthiest.
The U.S. economy has historically been strong, but when investors look under the hood, the U.S. market is being held together by several temporary factors: For example:
- Low interest rates in the rest of the world have been driving foreign demand for USD assets. Institutional investors from Europe and Asia, have been buying U.S. bonds and equity on a massive scale over the past 5 years in their search for yield. Will this continue now that U.S. interest rates are at zero?
- The 2017 tax cuts have also been a factor, helping to shield pre-tax profits that have fallen every year since 2014. A reversal of these cuts would be devastating.
- Share buybacks have been the single biggest source of demand for U.S. stocks over the past 5 years but are now being questioned by some market participants because of their controversial link to CEO compensation and the fact that 30% of buybacks are made with debt which has helped lead corporate debt to unprecedented levels of over $10 trillion.
- After years of providing market liquidity, the markets are fully addicted to quantitative easing and artificially suppressed interest rates. With the Federal Reserve now backed into a stimulus corner, how can Chairman Powell justify more stimulus and how can they ever reverse these policies without popping the stimulus bubble?
All of these factors combined have led to multiples in U.S. market that have not been seen since the tech bubble, with growth stocks accounting for the biggest disconnect from historical valuation ranges. Furthermore, the U.S. market has never been more expensive compared to non-U.S. companies as it is today.
Given the decade-long out-performance by U.S. equities—and the big spike during the coronavirus pandemic for some stocks and indices—it may be time for advisors and their clients to look beyond the U.S. and reposition portfolios more towards international markets. By dollar-cost averaging into International, and “dollar profit averaging” out of some U.S. investments, advisors can strengthen client portfolios to weather volatile markets ahead.
Andrew Manton is the Portfolio Manager for Shelton Capital Management’s International strategies.
© Shelton Capital Management
© Shelton Capital Management
Read more commentaries by Shelton Capital Management
