Is International Due in 2022?
“The Cubs are due in ’62.” —Ernie Banks
Growing up in the area as a lifelong Chicago Cubs fan, I heard the same thing every year. At the beginning of the season, all the die-hard fans would say, “This is our year.” Then at the end, it always morphed into “Wait until next year.” By the way, the 1962 Cubs went a dismal 59-103. Sorry, Ernie. They didn’t exactly shine in ’69 either, as he later predicted.
Fast forward to 2016 after, well, three decades of this process repeating (never mind the seven-plus decades before that), and it finally happened. World Champs, dogs and black cats living in harmony, ladder sales shooting through the roof, the return of the Baker’s Dozen, you know the story.
Ernie was right. He was just early. You can’t time baseball or the markets.
Reflecting on the markets last year, once again, US stocks outperformed international. Will this continue? According to history, it’s highly improbable and even more unlikely to continue for the next 107 years. Here are some reasons why a reversing trend for international may be near:
It’s very cheap compared to the US
Valuations are an important metric when comparing asset classes. The following chart shows the price-to-earnings (P/E) discount vs. the US over the last twenty years. The higher the P/E is for stocks, the more expensive.
As you can see looking at the far right, international stocks appear cheaper than ever. Is this a screaming indicator to buy? If the US slows down over time, it’s likely the rest of the world will catch up.
Earnings look attractive
Being cheap is irrelevant if the earnings are not there. After a rough 2020 across the board, estimated earnings for Europe and Emerging Markets grew by 55% in 2021, outpacing the US. The direction of earnings is another important factor in determining stock prices.
The outperformance of cyclical sectors post-Covid was a top story on Wall Street last year. These include stocks that tend to move in sync with the overall economy and can consist of autos, airlines, hotels, and travel.
The blue diamonds on the following chart illustrate the higher percentage of cyclical sectors abroad vs. the US. This may serve as a stronger post-Covid tailwind for foreign stocks.
You will notice the recovery was not as strong for China or Japan. BDF limits exposure in these areas.
The yield is higher
Another advantage is the higher dividend yield for international stocks versus the US. The chart below shows the MSCI ACWI World Ex-US Index, which basically represents all developed and emerging market stocks outside the US. The dividend yield is 2.8% versus 1.3% for the S&P 500, more than twice as much income generation. In a world of low yields, this is an attractive feature.
Outperformance occurs in cycles
It’s important to note that US and international equities trade outperformance over time. Diversification takes advantage of these trends.
True, the US has outpaced international the last decade, but one must not forget the “lost decade” prior. The S&P 500 lost 0.95% on an annualized period from 2000 to 2010 and was the worst performer over the 20-year period:
The recent underperformance shouldn’t undermine the diversification benefits of holding international stocks long-term.
The combination of low rates, growth forecasts, and attractive valuations is a favorable backdrop for international stocks. As the Federal Reserve looks to raise rates, that may be the catalyst for markets to rotate. These are just a few of the many reasons why we continue to maintain global diversification here at BDF to maximize your chance of success.
Author(s)
Gary Pattengale
Gary is a Wealth Manager at BDF and member of the Firm’s Investment Committee. He specializes in executive and stock-based compensation plans, including stock options, restricted stock and deferred compensation. He combines his tax knowledge, executive compensation experience and capital markets expertise to help clients reduce their tax burdens and achieve each of their unique goals.
