Is U.S. Outperformance Sustainable?

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Stock performance over the last decade has some investors questioning the merits of investing internationally. U.S. equity market returns have significantly outperformed their international counterparts by an unprecedented magnitude—In 2024, the S&P 500 posted its second consecutive year of greater than 20% returns, a feat only accomplished four other times and for the first time since 1991. As a result, a term has moved into the investment lexicon: American Exceptionalism. This expression promotes the belief that U.S. stock-market outperformance is a function of its superiority.

What is American Exceptionalism?

Equity investors are acutely aware that the U.S. has outperformed most other countries and regions by a wide margin over the past decade plus. They should also understand that stocks have gone through several cycles throughout history with different segments moving in and out of favor. The last meaningful cycle of outperformance for international stocks occurred from the early 2000s through 2008, following China’s admission into the World Trade Organization.

In fact, this has been one of the longest periods of outperformance between domestic and international stocks in history, pushing the U.S. to a jaw-dropping 66% of the world’s total stock market capitalization, its largest share ever. For some context, the U.S. comprises only 4% of the world’s population and 26% of the world’s economic output as measured by GDP.

Most would agree that U.S. outperformance has been well deserved. In aggregate, U.S. companies have typically generated stronger earnings growth, are more profitable, have stronger balance sheets, and generate more cash flow than their foreign counterparts. Indeed, U.S. public companies have generated meaningfully higher returns on invested capital relative to most other developed regions, including Europe, Japan, the U.K., and Canada, of approximately 15% versus 10% for the next highest country (Japan). This could partly be a reflection of a stronger rule of law and lighter regulatory environment. Another factor driving stronger performance is that the U.S. equity market is more concentrated in growing sectors, such as technology and communication services, while other countries’ stock markets have higher exposure to the more mature natural resource and utility sectors.

Is U.S. market dominance at risk?

Some signs suggest that U.S. market outperformance may not be sustainable. For starters, nearly one-third of U.S. stock market outperformance since 2010 was driven by multiple expansion (Narayan and Greene 2024), an industry term that essentially means that the valuation of U.S. stocks grew more rapidly than their foreign peers. Stronger growth rates certainly support richer valuations but there are limits to how much more an investor will pay for each dollar of earnings. Moreover, growth rates are starting to converge, with earnings forecasts expecting a more level playing field in 2025.

Another concern involves the U.S. budget deficit, which is expected to grow to $1.9 trillion (6.2% of GDP) at the end of 2025 and debt-to-GDP is projected to reach 120% by 2034. Economists question what the ultimate impact will be of unfettered indebtedness, but we are certain it cannot go on forever. Finally, the status of the U.S. dollar as the world’s reserve currency is tenuous. BRIC countries (Brazil, Russia, India, China, and South Africa) recently announced a payment system called BRICS Pay to compete with the U.S.’s Society for Worldwide Interbank Financial Telecommunications (SWIFT) system, and the dollar has been losing share of the foreign reserves held by central banks, which has fallen to below 59% from more than 72% at the start of the millennium.

What does this mean for investors?

A look back in history reveals distinct cycles between the performance of U.S. and non-U.S. equities. While U.S. dominance may appear unassailable today, many said the same of Japan in the 1980s or China in the early 2000s. These examples are reminders that long cycles often shift rapidly.

And the winds of change appear to be blowing harder today than ever before. There is friction on multiple fronts. Seldom seen shifts in trade, geopolitics, technology, and innovation support the notion that there could be a new world order. In fact, this is arguably the greatest combination of transformative events since the end of the Cold War. As much as current trends may point toward continued U.S. exceptionalism, it does not seem timely for an investor to put all their eggs in one basket.

How can investors stay protected?

The recoveries from both the Global Financial Crisis and pandemic produced a period of strong growth and low interest rates. It is not always this easy. Investing environments like today are fertile ground for a change in the status quo. That change is generally uncomfortable but navigable with the right advice. To be clear, we are not trying to say something bad is coming for investment markets. In fact, many indicators are still pointing upward. Nevertheless, leaning out too far in any one direction is never a good idea because global markets don’t move in perfect lockstep. Correlations between domestic and international markets vary over time, providing a natural hedge against country-specific economic downturns.

By holding international stocks, investors can spread risk across different economies, monetary policies, and geopolitical environments. This diversification enhances risk-adjusted returns. Global diversification protects against the uncertainty of which economies will outperform in the future. Bottom line: a globally diversified portfolio is a more resilient portfolio, in our view.

Sources: MSCI, JPMorgan Research, United Nations, International Monetary Fund, FactSet Research, Bridgewater Associates, and Congressional Budget Office.

The information provided is educational and general in nature and is not intended to be, nor should it be construed as, specific investment, tax, or legal advice. Individuals should seek advice from their wealth advisor or other advisors before undertaking actions in response to the matters discussed. No client or prospective should assume the above information serves as the receipt of, or substitute for, personalized individual advice. This reflects our opinions, may contain forward-looking statements, and presents information that may change. Nothing contained in this communication may be relied upon as a guarantee, promise, assurance, or representation as to the future. Past performance does not guarantee future results. Market conditions can vary widely over time, and certain market and economic events having a positive impact on performance may not repeat themselves. Investing involves risk, including, but not limited to, loss of principal. Opinions may change over time due to market conditions and other factors. The index or benchmark is shown for comparative purposes to establish current market conditions. The index returns displayed are unmanaged and do not reflect the deduction of any fees or expenses and assumes the reinvestment of dividends and other income. You cannot invest directly in an index. This is prepared using third party sources considered to be reliable; however, accuracy or completeness cannot be guaranteed. The information provided will not be updated any time after the date of publication.

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