U.S. stocks have been the best place to invest during the past 10 years, but that dominance is likely to shift in 2020, according to several investors and strategists.
They are betting on international stocks outperforming the U.S. in the new year, something that has only happened twice since 2010. U.S. equities have blown their international counterparts out of the water in that time.
The S&P 500 is up more than 180 percent and the MSCI ACWI ex U.S. exchange-traded fund (ACWX) has added just 18 percent since 2010. Emerging markets have fared even worse this decade against the S&P 500. The iShares MSCI Emerging Market Index is up just 4 percent since 2010.
Yet, market experts believe international stocks are poised for a comeback in 2020 versus the U.S. due to attractive valuations and a potential trough in global economic growth as world central banks take up more stimulative measures.
“Having underperformed for more than ten years, non-US stocks are set to gain the upper hand over their US peers,” Peter Berezin, chief global strategist at BCA Research, stated in a note. “A reacceleration in global growth, a weaker US dollar, and favorable valuations should all support non-US stocks next year.”
Valuation favors international
The S&P 500′s price-to-earnings ratio, a widely used valuation metric on Wall Street, currently stands at above 20. This is the average’s richest valuation since August 2018. That high valuation follows the S&P 500 reaching all-time highs despite a year-over-year earnings decline.
However, international stocks are trading at a much lower valuation. Through Friday’s close, the ACWI fund’s price-to-earnings ratio rested around 14.7.
Callum Thomas, head of research at Topdown Charts, notes there is a “50 percent valuation gap” between U.S. and international stocks. “Yes global ex-US has its problems, but are they 50 percent discount problems? At a certain point if the valuation gap is wide enough it kind of starts to speak for itself,” he added in a note.
This enormous valuation gap comes as global economic growth has slowed down while the U.S. economy keeps humming. Last week, the Commerce Department said U.S. GDP expanded by 2.1 percent in the third quarter.
Economies worldwide, meanwhile, have been stuck in the mud as manufacturing activity declines and trade conditions tighten.
In Europe, manufacturing activity reached a seven-year low in October. It rebounded slightly during November but remained in contraction territory, data from IHS Markit showed.
On the trade front, the U.S.-China dispute continues as both sides try to sign a so-called phase one deal. U.S. President Donald Trump also said on Monday the U.S. will restore tariffs on metal imports from Brazil and Argentina.
These factors, however, have made global central banks decide to ease monetary policy. The European Central Bank launched a new bond-buying programme earlier this year. The People’s Bank of China (PBOC) lowered its short-term funding rate for the first time since 2015 last month, and the Bank of Japan (BOJ) has kept monetary policy easy during 2019.
Global economic rebound?
The trade tensions between Beijing and Washington have eased slightly in recent months as both sides show they are willing to reach some sort of deal. These moves could spur a resurgence in global economic growth, which would “disproportionately benefit” international stocks relative to the U.S., BCA’s Berezin stated.
“The sector composition of international stocks is more skewed towards cyclicals than defensives compared to US stocks,” Berezin added. “As a result, non-US stocks generally outperform their US peers when global growth accelerates.”
To be sure, international stocks may be pricing in these scenarios already.
Mike Wilson, chief U.S. equity strategy at Morgan Stanley, said the MSCI All-Country World Index — which measures the performance of international stocks including the U.S. — has already produced returns that are “meaningfully higher” since reaching its December 2018 lows.
“That is consistent with a bottoming in global economic growth, meaning that markets are sending a signal about the turn in growth and pricing it in many cases,” Wilson added.
What to buy overseas
Wilson recommends investors buy into Japanese and Korean equities in 2020. He also has an underweight rating on U.S. stocks heading into next year.
The iShares MSCI Japan ETF (EWJ) is up more than 18 percent this year, on pace for its biggest annual gain since 2017. The ETF added 22.7 percent that year. Japan’s Nikkei 225 index also gained 16.4 percent for 2019.
Korean equities, however, have not fared nearly as well this year. The iShares MSCI South Korea ETF (EWY) is down more than 2 percent for 2019, and the main stock index, the Kospi, is barely up year to date.
Europe is another global stock market eyed by experts heading into 2020. Stocks in the continent are on pace for their biggest annual gain since 2009, when they climbed 28 percent. The Stoxx 600 index, which tracks a broad number of European stocks, rose 19.3 percent in 2019.
Money flows into European assets are “certainly indicating that all the bad news in Europe has been priced in.”, said Cameron Brandt, director of research at EPFR.
“Given that the ECB is back in full backstop mode, and that Europe has a lot of dry powder in terms of fiscal stimulus … it’s probably fair to say the greatest potential for upside next year may be in Europe,” Brandt added.
Within Europe, one market that could witness further upside in 2020 is Germany, said Nuveen’s Brian Nick. The German Dax has gained more than 20 percent in 2019 and is headed for its biggest one-year gain since 2013.
“If we get a stabilisation in growth in 2020, the internationally oriented countries should do a bit better, especially if China looks a little more solid as it seems to,” the firm’s chief investment strategist said. “Those two economies are more closely tied together than the U.S. is to either of those.”
Buy international for the new decade?
Investors could also benefit from making a long-term bet on global stocks after the 2010s were dominated by the U.S.
John Davi, chief investment officer at Astoria Portfolio Advisors, believes overseas equities can outperform over the new decade after lagging the U.S. for so long.
“In the last 10 years you’ve had this incredible run of the U.S. over the rest of the world. I think that’s going to shift over the next 10 years,” he added. “At the end of 2020, I think we’re going to have a much different decade-long return for U.S. versus international.”