OK, so here’s a quick brain teaser for all of us who have a 401 (k) or other retirement portfolio.
As we all know, US funds in our portfolio have beaten international funds, and have been for many months, years and over a decade. In the past five years, for example, US stock index funds such as the SPDR S&P 500 ETF
and Vanguard Total Stock Market Index Fund
has generated about twice the total profits of internationally oriented equivalent companies, such as the iShares MSCI EAFE (Europe, Australasia and Far East) ETF
or the Vanguard Total International Stock Index Fund
Back in early 2010 and US funds beat their international counterparts 4-1.
Data from MSCI, the stock market data firm, shows this performance gap existed decades ago.
So here is the question.
That’s it. Why Have US stock funds been doing much better than international stock funds yet?
That challenge was solved by the hedge fund honcho Cliff Asness in a remarkable event new analysis with the brilliant title “The Long Run Is Lying To You”. And what he found improves much of the pass to the conventional wisdom, on Wall Street and Main Street, on our retirement accounts.
According to the Asness report, if you think US funds did much better because US-based companies are generating more earnings per share and growing faster than their counterparts. their internationalization.
According to the Asness report, if you think American companies are making higher dividends and growing faster then it’s also a bankruptcy.
In fact, using data from 1980, he showed that earnings and dividends for US and international stocks (and funds) are very similar. The superior performance of US firms, such as it, accounts for a small fraction of their better profits.
The real explanation? Price.
From 1980 to 2020, Asness writes, “We see a huge valuation with the United States becoming relatively much more expensive” than the rest of the world. Investors are simply willing to pay more for every dollar of U.S. income than international corporate earnings.
He illustrates this using one of the stock market’s preferred metrics, the so-called cycle-adjusted price-to-earnings ratio, comparing the stock price to the company’s net income. in the previous 10 years.
According to Asness reports, in 1980, US and international stock indices traded with the same CAPE. Today, the CAPE in the US market is twice as high as the international average. This change is huge – and plus any change in their own income. It is not that US earnings have risen too much relative to international income, but that US stock prices have risen more, relative to their earnings, than international stock prices.
According to Asness reports, during the period 1980-2020, this “change in valuation” accounted for about 80% of all US business activities. And since 1990, a period of depreciation for US stocks due to the collapse of the Japanese bubble, it’s still operating at around 75%.
In other words, US stocks did not become more popular because their performance was too good: Their performance was too good as they became more popular. All of our investors are bidding on US stocks because we think they’re “better”, and by placing them higher, we make them look better … which makes them look better … want to increase the price even more.
To my naive ears this sounds suspiciously like a legitimate Ponzi scheme or a pyramid scheme or a bubble.
For those confused by the brain teaser above, here’s the chance to do it all over again. Just as US stock funds outperform the international equity funds in our portfolios, so “growth” funds are interesting and consistently outperform “price” funds. treatment “boring. (So-called “growth” funds invest in (expensive but fast-growing) companies of the future like Tesla.
“value” funds invest in companies (cheap, but slower) of today and yesterday such as Ford.
For example, since the beginning of 2010, ETF Vanguard Growth
has generated 75% higher returns than the Vanguard Value ETF
Over the past five years, growth has beaten the apparent 100% value.
But, again: Why?
Why is a growth fund a much better investment than a value fund?
Asness ran the numbers and found the same answer. This is not due to relative income growth or dividend payments. Again, he said, it’s because of the price.
This time, he uses another popular metric, comparing stock prices to a company’s net worth.
Between 1950 and around 1990, he calculated, American “growth” stocks were on average four times more expensive than stocks with value by this measure.
Today? They are on average 10 times more expensive. That gap is as wide as it was during the dot-com bubble of 1999-2000, he said.
In other words, it is the same paradox or illusion. We think “bull” stocks have become more popular because their performance is too good. But in fact, the main reason why their performance is so good is that they become more popular. Investment fashions for growth stocks do not reflect as much on their outstanding performance as reason. We pay more and more for the privilege of investing in the hopes and dreams of tomorrow.
This means that if we expect US stocks and bull stocks to continue to do as well in the future as they did in the past, we must accept eloquent assumptions. They don’t just have to be in fashion, they have to be even more in fashion. And god forbid if they’re really out of style.
Fortunately, fashion doesn’t cycle, and what’s popular today is sure to be what’s popular tomorrow. Just ask any young people.