Markets & Finance

Stocks: Time to Change Your Worldview?


Overseas equities have provided American investors with big returns while their U.S. stock portfolios lagged. But a turnabout may be at hand

For years, U.S. stocks looked like they were stuck in the slow lane as international equities zoomed ahead, driven by booming economies overseas. Now, despite a global bear market for equities, there are signs the U.S. might be poised to catch up—insofar as their losses are close to equaling those of their non-U.S. counterparts.

So far, U.S. stocks have narrowly outperformed overseas indexes in 2008. The U.S.'s broad Standard & Poor's 500-stock index is down 10.4% for the year to date (through Mar. 13), but the benchmark overseas developed market index, the MSCI EAFE, is off 10.5%, and the MSCI emerging market index has fallen 11.7%.

"Over the last few years, we've seen huge outperformance by international," says Alec Young, international equity strategist at Standard & Poor's. "So just the fact that they're neck and neck this year is a big story."

U.S. stock performance looks even better if you account for the falling dollar, a trend from which Americans who invest abroad have profited. As the dollar sinks, Americans' portfolios benefit from the rising dollar value of overseas stocks. If you ignore the impact of currency, the MSCI EAFE is down 16.1% in local currency, while the MSCI emerging market index is off 12.2%.

Problems Easily Cross Borders

That outperformance by the U.S. is remarkable, given U.S. economic realities. The credit crisis began in the U.S. mortgage market and was sparked by the U.S. housing downturn and problems with subprime loans. While an economic slowdown, and perhaps a recession, grips the U.S., economies in the rest of the world are still showing healthy growth.

The global decline in stock prices is evidence of how easily the financial winds can cross borders these days. "You're not hiding from the U.S. recession [and] credit market problems by buying international stocks," Young says.

A company's global exposure has little to do with where it hangs its corporate hat. Pat Dorsey, director of stock analysis at Morningstar (MORN), points out that Siemens (SI) and 3M (MMM) have similar mixes of foreign and U.S. revenues, even though one is based in Germany and the other in Minnesota.

American Consumer Slowing Down

The credit crisis is also worldwide. It may have started when Americans couldn't make mortgage payments, but billion-dollar losses have hit Asian banks and European hedge funds along with Wall Street brokerage houses such as Bear Stearns (BSC).

A common investing cliché: "When the U.S. sneezes, the rest of the world catches cold." So does a U.S. recession automatically mean a global slowdown? For years, the resilient U.S. consumer bought a large portion of the rest of the world's products, says Gary Anderson, a fund manager at the UMB Scout International Fund (UMBWX). The rest of the world could suffer as U.S. consumers slow their spending because of high gas prices, declining home values, and a weaker job market.

Anderson and other observers see reason for optimism this time. "The U.S. might get a cold, and the rest of the world may get a case of the sniffles," he says.

Strong Emerging Economies

Booming emerging economies might slow down, but they're unlikely to shrink. Up-and-comers like China and India are developing their own class of consumers, and their currencies and the financial condition of their governments is much stronger than in past global slowdowns, giving them the strength to resist a global financial crisis. "You have emerging economies on a much firmer basis," Dorsey says.

Two strengths for emerging economies are rising commodity prices and spending on infrastructure including roads, bridges, and power systems. Neither trend shows much sign of slowing down. For example, Anderson says Brazil, with lots of spare farmland, is a big beneficiary of the runup in prices of food commodities such as wheat, coffee, and soybeans. Dorsey says companies are showing no slowdown in global demand for the equipment needed to build out the world's infrastructure.

So where should U.S. investors be putting their extra cash—equities in the U.S.; emerging markets like Brazil, China and Asia; or overseas developed markets such as Europe and Japan?

"Proactive" Policymakers in the U.S.

For the first time in a while, market observers are betting on the U.S. Anderson is taking a defensive strategy for the next six to nine months, but he adds: "If we don't fall into a serious recession here, the [U.S.] markets are likely to be the ones that lead us out" of the global bear market. The U.S. economy may bounce back later this year just as the rest of the world slows.

Robert Jukes, global equity strategist at Collins Stewart (CLST), agrees. If the U.S. outperforms, it will be because policymakers have been "extremely proactive," he says. Not only is the Federal Reserve rapidly cutting interest rates, but the federal government has approved a large fiscal stimulus package.

Britain, Europe, and Japan may be facing similar slowdowns, but policymakers have been far more relaxed, Jukes says. "It's really the U.S. that has done the most, and markets have rewarded it."

The Dollar Could Come Back

A key question is the direction of the U.S. dollar. The dollar could keep falling, boosting foreign stocks' attractiveness. But Dorsey warns U.S. investors that a falling dollar is no sure thing. If "it becomes clear the slowdown isn't deep and long-lasting, the U.S. dollar will regain strength," says Jukes.

S&P's Young says stock investors around the world are closely watching the U.S. housing market and economy for signs that things are stabilizing. "As long as things don't get a lot worse, this is a good buying opportunity," he says.

Whenever recovery comes, the U.S. could find itself leading the global pack—for the first time in a long while.


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