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Market View

A well-balanced portfolio of U.S. and international equities exposes investors to a broader opportunity set to bolster the potential for long-term risk-adjusted returns.

 

In Brief

  • Incorporating non-U.S. stocks historically has provided effective diversification to equity portfolios, as evidenced by correlations versus U.S. equity markets.
  • We believe a global approach allows for investors to capitalize on a broader opportunity set to uncover potential sources of alpha.
  • We think a carefully considered global allocation to both international equities and U.S. equities may allow investors to participate in the potential upside of future global growth.

 

Home-country bias is a behavioral tendency for investors to favor domestic companies over international counterparts. For example, approximately 80% of U.S. investors’ holdings were comprised of domestic equities, according to the International Monetary Fund (IMF). Meanwhile, U.S. equities only accounted for roughly half of the global equity market at that date, based on combined data from the IMF, Barclays, Thomson Reuters, and FactSet.1

Why is this important? We believe an investor who has allocated solely to equities in his or her home country may wind up missing out on a large opportunity set in the rest of the world. Investors with substantial portfolio weightings in the world’s largest equity market—the United States—may wish to take note.

Why Invest Globally?
One of the potential benefits of investing globally is diversification. International stocks, as measured by the MSCI World ex-U.S., have had a 0.76 correlation with U.S. equities over the long term, as seen in Chart 1. U.S.-based equities tend to be exposed to a more narrow market, while international equities have a broader presence in various markets and economies. These different exposures can result in varying returns, helping investors construct diversified portfolios, which can exhibit lower volatility over time.

 

Chart 1. Non-U.S. Equities Historically Have Offered Potential Diversification Benefits
Correlations to the MSCI USA Index, 1990–2017 

Source: MSCI. Data are latest available. All data are gross dividends reinvested (US dollar basis). World ex-US=MSCI World ex-USA Index. EAFE (Non-U.S. developed markets)=MSCI EAFE Index. Emerging Markets=MSCI Emerging Market Index.
Past performance is not a reliable indicator or a guarantee of future results. The historical data are for illustrative purposes only, do not represent the performance of any specific portfolio managed by Lord Abbett or any particular investment, and are not intended to predict or depict future results. Indexes are unmanaged, do not reflect deduction of fees and expenses and are not available for direct investment.

 

Furthermore, market leadership tends to shift among various countries over time with no discernible pattern. Once again, the United States provides a good example. As seen in Table 1, the United States has been the market leader among major global equity markets for only four of the 13 years from 2006–18. We believe global diversification gives an investor the opportunity to allocate to economies experiencing market leadership.

 

Table 1. Globe-Hopping: Market Leadership Has Varied over the Years
Returns on MSCI developed-market country indexes (Nine largest by market cap), 2006–18

Source: MSCI. Data as of December 31, 2018.
Past performance is not a reliable indicator or a guarantee of future results. The historical data are for illustrative purposes only, do not represent the performance of any specific portfolio managed by Lord Abbett or any particular investment, and are not intended to predict or depict future results. Indexes are unmanaged, do not reflect deduction of fees and expenses and are not available for direct investment.

 

On a larger scale, international (non-U.S.) equities in the aggregate outperformed U.S. equities in 50% of the calendar years 1999–2018, based on a comparison of the MSCI EAFE and S&P 500® indexes.

Potential tailwinds for non-U.S. equities
While we anticipate strong tailwinds for the United States in 2019 and beyond, there are several factors that may serve as a tailwind for international securities as well, furthering the case for a global approach to investing.

  • Current valuations for international equities are generally less expensive than their historical average price-to-earnings ratio.  As of March 31, 2019, the MSCI EAFE Index, a proxy for developed market non-U.S. equities, had a current P/E ratio of 15.30, which is significantly less than its 20-year average of 25.
  • Furthermore, the MSCI EAFE Index offered a  dividend yield of 3.54% (as of March 31, 2019), a feature that has been especially attractive to investors  in light of the zero interest rate policies in the eurozone countries and many others.
  • Internationally, many central banks are continuing their highly accommodative monetary policy programs. The European Central Bank has maintained its benchmark refinancing rate at 0% and has pledged to keep reinvesting cash from maturing bonds. The Bank of Japan has maintained its short-term interest rate at -0.1% and has kept the target for the 10-year government bond yield at around 0%. To the extent that the base level of interest rates influences asset valuations, lower rates might suggest that higher valuations are appropriate in lower-interest rate economies, holding all other factors constant.

What About Trade?
Despite the uncertainty and negative sentiment surrounding the global trade conflict, certain countries or regions may actually stand to benefit. In our view, there are companies that are better equipped to withstand geopolitical turbulence from tariffs, whether it is because of strong market positions, high barriers to entry, or unique and valuable intellectual property. We believe that through active management and rigorous fundamental research, investors may be able to gain exposure to international companies that have been better positioned to weather global trade disputes.

Summing Up
We think many U.S. investors may be underexposed to international markets. This is a point worth considering, as a global portfolio may provide diversification benefits, a broader opportunity set, and ultimately, augment long term risk-adjusted returns.

1 Data as of December 31, 2014, the most recent available.

 

Correlation is a statistical measure that describes the strength of relationship between two variables. It can vary from 1.00 to -1.00.

The MSCI All Country World Index (ACWI, or World Index) is a free float-adjusted market capitalization weighted index that is designed to measure the equity market performance of developed and emerging markets. The MSCI ACWI (All Country World Index) ex-U.S. Index is a subset of the MSCI ACWI Index. 

MSCI Country Indexes measure the performance of individual developed country stock markets.

The MSCI EAFE Index (Europe, Australasia, Far East) is a free float-adjusted market capitalization index that is designed to measure the equity market performance of developed markets, excluding the US & Canada.

The MSCI Emerging Markets Index is a free float-adjusted market capitalization index that is designed to measure equity market performance of emerging markets.

The MSCI ACWI (All Country World Index) ex-U.S. Index is a subset of the MSCI ACWI Index.  The MSCI ACWI (All Country World Index) Index is a free float-adjusted market capitalization weighted index that is designed to measure the equity market performance of developed and emerging markets. The MSCI ACWI Ex-U.S. Index with Gross Dividends approximates the maximum possible dividend reinvestment. The amount reinvested is the entire dividend distributed to individuals resident in the country of the company, but does not include tax credits. The MSCI ACWI Ex-U.S. Index with Net Dividends approximates the minimum possible dividend reinvestment. The dividend is reinvested after deduction of withholding tax, applying the rate to non-resident individuals who do not benefit from double taxation treaties. MSCI uses withholding tax rates applicable to Luxembourg holding companies, as Luxembourg applies the highest rates.

The S&P 500® Index is widely regarded as the standard for measuring large cap U.S. stock market performance and includes a representative sample of leading companies in leading industries.

IMPORTANT INFORMATION

Risks to Consider: Keep in mind that all investments carry a certain amount of risk including possible loss of the principal amount invested. The value of investments in equity securities will fluctuate in response to general economic conditions and to changes in the prospects of particular companies and/or sectors in the economy.

No investment strategy, including diversification and asset allocation, guarantees a profit or protects against a loss. Stock markets, especially international markets, and investments in individual stocks are volatile and can decline significantly in response to issuer, market, economic, industry, political, regulatory, geopolitical, and other conditions. While growth stocks are subject to the daily ups and downs of the stock market, their long-term potential as well as their volatility can be substantial.  Investments in smaller companies may involve greater risks than those in larger, more well known companies. Investments in international securities are subject to certain risks of overseas investing, including currency fluctuations and changes in political and economic conditions, which could result in significant market fluctuations. These risks are magnified in emerging markets.

This Market View may contain assumptions that are “forward-looking statements,” which are based on certain assumptions of future events. Actual events are difficult to predict and may differ from those assumed. There can be no assurance that forward-looking statements will materialize or that actual returns or results will not be materially different from those described here.

Indexes are unmanaged, do not reflect the deduction of fees or expenses, and are not available for direct investment.

No investing strategy can overcome all market volatility or guarantee future results.

Statements concerning financial market trends are based on current market conditions, which will fluctuate. There is no guarantee that markets will perform in a similar manner under similar conditions in the future.

The information provided is not directed at any investor or category of investors and is provided solely as general information about Lord Abbett’s products and services and to otherwise provide general investment education. None of the information provided should be regarded as a suggestion to engage in or refrain from any investment-related course of action as neither Lord Abbett nor its affiliates are undertaking to provide impartial investment advice, act as an impartial adviser, or give advice in a fiduciary capacity. If you are an individual retirement investor, contact your financial advisor or other fiduciary about whether any given investment idea, strategy, product or service may be appropriate for your circumstances.

The opinions in Market View are as of the date of publication, are subject to change based on subsequent developments, and may not reflect the views of the firm as a whole. The material is not intended to be relied upon as a forecast, research, or investment advice, is not a recommendation or offer to buy or sell any securities or to adopt any investment strategy, and is not intended to predict or depict the performance of any investment. Readers should not assume that investments in companies, securities, sectors, and/or markets described were or will be profitable. Investing involves risk, including possible loss of principal. This document is prepared based on the information Lord Abbett deems reliable; however, Lord Abbett does not warrant the accuracy and completeness of the information. Investors should consult with a financial advisor prior to making an investment decision.

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