In recent years, the U.S. economy and stock market have been viewed by global investors as the best game in town, but now that story may be changing.
The U.S. economy has rightfully been viewed as a bastion of relative prosperity in a slow-growth world. And U.S. stocks have consistently outperformed most international stock markets as a result. But market trends are constantly shifting, and so is the global performance derby, as international markets are catching-up.
Growth expectations are on the rise internationally, just as performance in the U.S. economy may be as good as it gets. That’s the takeaway from both recent economic data and by tracking global money flows.
While the ongoing drama between Greece and euro-zone finance ministers over the Greek bailout makes the headlines, beneath the surface Europe’s economic data is improving. For instance, recent surveys of consumer and business confidence are improving.
Germany’s ZEW Economic Sentiment survey jumped in January to the highest levels in nearly six years. Investor sentiment is on the rise too. As you can see in the graph above, the Sentix survey of euro-zone investor optimism has moved sharply higher since late 2014, swinging into positive territory recently.
As a result of the upbeat economic news, global fund flows are increasingly targeting international equities, not just U.S. stocks. According to a recent survey of global fund managers by Merrill Lynch, there has been a massive shift into euro-zone stocks this month.
In fact, February’s asset allocation to Europe by fund managers was the second-best ever recorded in this survey. And this was accompanied by a big rise in expectations for a stronger European economy too (see chart below).
Another favorite destination: Emerging markets are attracting more money from global investors too, with a big increase in equity fund flows into developing stock markets this month.
Additionally, energy and consumer discretionary are the favorite sectors according to fund managers surveyed.
This confirms what my colleague Mike Larson has been pointing out as a great buying opportunity in energy stocks. Plus it confirms what I wrote last week in Money and Markets about how consumer discretionary stocks are likely to outperform.
Just keep in mind that investor sentiment shifts can be very fickle. So it’s too soon to say if this is just the beginning of a longer term move in favor of international markets and perhaps away from U.S. stocks; or it could be only a temporary reversal.
However, there’s one indicator you want to keep a very close eye on, which I’ll get to in just a moment.
The European Central Bank (ECB) is playing a big supporting role in this investor sentiment shift too.
The ECB is set to launch a massive money-printing program plan of its own next month, modeled after the Federal Reserve’s quantitative easing program that added trillions to the Fed’s balance sheet.
Beginning in March, the ECB plans to start buying $1.3 trillion worth of euro-zone bonds. This massive money printing will almost certainly find its way into European equity markets, just as the Fed’s QE boosted U.S. stocks.
In fact, it’s already happening. So far this year the Stoxx Europe 600 Index has gained 10 percent, compared with a year-to-date gain of just 2 percent for the S&P 500 Index.
Developing stock markets are likewise outperforming, with the MSCI Emerging Market Index up 8.4 percent over the last two months alone.
But how will you know if this performance trend in favor of international stocks is likely to continue, or even accelerate?
Keep a watchful eye on the U.S. Dollar Index which is up sharply over the past year. [chart 3]
Strength in the dollar is a direct reflection of the desire by global investors to own U.S. assets including: stocks, bonds, real estate, you name it.
The money has been flowing from investors in Europe, Japan and other global hot-spots (Middle East, Russia) first into the U.S. dollar, then into domestic stocks, bonds, etc.
If the global flow of funds is truly reversing course in favor of international markets, you’ll spot it first in a weakening dollar.