Morgan Stanley
  • Wealth Management
  • Sep 4, 2018

Time to Look Overseas?

So far this year, economic growth slowed in many foreign markets and strengthened in the U.S., but that situation could reverse later this year.

Lisa Shalett Wealth Management Head of Investment and Portfolio Strategies

It has been a challenging year for investing in foreign markets. Economic growth has diverged between the U.S. and non-U.S. regions and equity markets have followed suit. 

It has been a challenging year for investing in foreign markets. Economic growth has diverged between the U.S. and non-U.S. regions and equity markets have followed suit. 

However, the conditions that led to weakness in international markets and strength in the U.S. could well reverse in the latter part of this year. 

In the U.S., the Federal Reserve is likely to keep raising interest rates, earnings growth is likely at a peak and market leadership in the tech and consumer discretionary sectors is looking vulnerable. In contrast, beyond U.S. shores, monetary policy remains loose, growth could be stabilizing and valuations appear more attractive.

Recent weakness in certain foreign markets can provide an opportunity to rebalance your portfolio and avoid being overexposed to late-cycle U.S. markets. Below are three regions I think could represent opportunities going forward:

Europe – Stocks may have sold off more than financial conditions warrant, creating some compelling opportunities.  I would look for high-quality, value-oriented Europe sectors with less U.S. exposure, such as financials, utilities and telecom.

Japan – Its labor market is seeing the most improvement in decades and business sentiment is up. Corporate profitability and earnings momentum are improving. These conditions may support growth and benefit equities.

Emerging Markets – The downturn in currencies and stocks may be overdone. China weakness seems overstated and a rebound once currency and headline fears abate may benefit emerging markets.  Stay with export-oriented emerging market countries that are less sensitive to dollar strengthening, such as Russia, Taiwan and Korea.

In 2017, global synchronized growth set the tone. This year a major global theme is divergence. While I expect divergence to continue, that doesn’t mean foreign markets will stay down and U.S. markets up. In fact, we may see the reverse.

Risk Considerations

Investing in foreign and emerging markets entails greater risks than those normally associated with domestic markets, such as political, currency, economic and market risks. Investing in currency involves additional special risks such as credit, interest rate fluctuations, derivative investment risk, and domestic and foreign inflation rates, which can be volatile and may be less liquid than other securities and more sensitive to the effect of varied economic conditions. In addition, international investing entails greater risk, as well as greater potential rewards compared to U.S. investing. These risks include political and economic uncertainties of foreign countries as well as the risk of currency fluctuations. These risks are magnified in countries with emerging markets, since these countries may have relatively unstable governments and less established markets and economies.

Equity securities may fluctuate in response to news on companies, industries, market conditions and general economic environment.

Asset allocation and diversification do not assure a profit or protect against loss in declining financial markets.

Because of their narrow focus, sector investments tend to be more volatile than investments that diversify across many sectors and companies.

Rebalancing does not protect against a loss in declining financial markets.  There may be a potential tax implication with a rebalancing strategy.  Investors should consult with their tax advisor before implementing such a strategy.

Value investing does not guarantee a profit or eliminate risk. Not all companies whose stocks are considered to be value stocks are able to turn their business around or successfully employ corrective strategies which would result in stock prices that do not rise as initially expected.

Growth investing does not guarantee a profit or eliminate risk. The stocks of these companies can have relatively high valuations. Because of these high valuations, an investment in a growth stock can be more risky than an investment in a company with more modest growth expectations.

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