Although we are just a little more than a month into the new year, I have already received more questions about international investments than I did all of the previous two years combined, maybe three. It isn’t people believe foreign markets will suddenly roar to life and put the US in the dust. No one believes that; however, how much longer can the United States continue to outperform the remainder of the world, especially to the extent it has?
Frankly, it hasn’t been close. For the 10 years ending in January 2022, the S&P 500 had a total rate of return of 302.03%, for annual equivalent return of 15.04%. That is pretty awesome. By comparison, the MSCI EAFE Index, the most often used developed international stock benchmark, returned 95.1%, for an annual equivalent of 6.99%, over the same time frame. For their part, the emerging markets, as defined by the MSCI Emerging Markets Index, came home at 46.84% and 3.95% respectively.
That’s real money.
Although investment types are prone to use expressions like “reversion to the mean,” it is hard to find many serious people who are pounding their fists on the table about an upcoming surge in the foreign markets, especially the developed ones. To be sure, they might argue certain countries and indices are cheap compared to the S&P 500, and they might be right. However, apples and oranges don’t always cost the same amount, if you catch my drift.
With this in mind, I often use the following story to help illustrate my/our predilection towards the technology sector. “Imagine I put a huge bucket on the table in front of you, and fill it with all of the world’s existing technology and that which is to come. Now, I am going to make you bet $100 of your own money, not mine, on whether the global economy is going consume more or less of the contents in the bucket moving forward. What is your answer?”
Not surprisingly, everyone always responds the same way: “it is going to consume more technology moving forward. That is where the growth is.” Indeed. I concur. That IS where the growth will be moving forward, even IF the sector might not always be the cheapest. Of course, this depends on your definition of cheap. After all, tilapia is cheaper than lobster, and both are seafood.
Consider this. The world’s largest ‘developed markets’ ETF is the Vanguard FTSE Developed ETF (VEA), which is currently around $110 billion, give or take a few billion. Its two largest country weights on 12/31/2021 were: Japan (19.97%), and the UK (10.88%). According to the World Bank, Japan’s GDP grew 3.8%, total, from 2010-2020 in ‘constant 2015 US dollars.’ The UK grew 8.1% over the same time frame in those same 2015 US dollars. By comparison, the US grew 17.9% over that 10-year stretch, which was a weak one by historical standards.
For grins, the remainder of the G7 had the following growth rates: Germany 11.2%; France 4.0%; Canada 14.4%, and Italy (8.2%). The combined non-US remainder of the G-7, the other countries listed here, grew at a 5.5% aggregate rate from 2010-2020, almost 9% less than the US. Clearly, the growth has been here, as opposed to there.
Then, there is the issue of the markets themselves.
Due to a variety of factors, far too numerous to mention in this short newsletter, the top-5 industry groups in the VEA fund are as follows: banks 9.61%; pharmaceuticals 6.44%; semiconductors 4.43%; insurance 4.25%, and food 4.12%. Clearly, the remainder of the developed markets do NOT have a tech tilt. By comparison, the top-5 industry groups in the SPDR S&P 500 ETF Trust (SPY) on 01/31/2022 were: internet 10.80%; software 10.26%; computers 8.68%; semiconductors 5.82%, and pharmaceuticals 5.39%. Wow. Talk about growth, huh?
In essence, over the last decade, the US has had better economic growth, and the economic sectors where the growth has been (and likely will continue to be) dominate the American stock markets.
Of course, this could lead to problems in the future. What happens when the economy veers off into the ditch? When investors flee tech in droves? When the black swan swims up? When the other shoe falls? I mean, no one wants to be holding the bag when tech falls apart like it did back in 2000-2002. Am I right?
To be sure, and some measure of rebalancing will eventually take place, again. After all, it hasn’t been so long ago when the powers that be moved Amazon.com to ‘consumer discretionary,’ and Facebook and Google to ‘telecommunications,’ and all that jazz. What’s more, the growth rates in these sectors will likely slow at some point, and folks will declare the easy money has already been made. All of it and more.
Over the next decade, it is highly unlikely the S&P 500 will enjoy the same level of outperformance against the primary international indices as it has had over the previous one. However, let me pose this to you “straight up, even odds, your own money; who do you like between now and the end of 2031? The US or the rest of the lot? Do you want the euro, the yen, the Canadian dollar, the British pound, or the US dollar? Do you want tech heavy or banking heavy? Innovation or old-economy?
Your call.
Where the rubber meets the road, when the dust settles, when the smoke clears, and when the cows come home, yeah, the US has had an awesome ride in both absolute and relative terms. Returns WILL slow from the feverish pace of the last several years. We won’t continue to crush the foreign competition to the same degree as we have. Finally, at some point, we, Oakworth, likely will add to our international allocation. However, that isn’t saying all that much when you consider how little we currently have, and it won’t be without a little grumbling on my part.
Take care, thank you for your continued support, and be sure to listen to our Trading Perspectives podcast.
Chief Economist
As always, nothing in this newsletter should be considered or otherwise construed as an offer to buy or sell investment services or securities of any type. Any individual action you might take from reading this newsletter is at your own risk. My opinion, as those of our investment committee, is subject to change without notice. Finally, the opinions expressed herein are not necessarily those of the rest of the associates and/or shareholders of Oakworth Capital Bank or the official position of the company itself.