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Investing internationally

2023-09-28, Michael Thompson

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Investing internationally

Excluding 2022, US stocks have done well over the last decade. The NASDAQ-100 has almost doubled over the last 5 years, including a 35% increase thus far in 2023. International (ex-US) stocks have not done so well—they’re priced about the same as they were 5 years ago. Is this difference in returns justified? Are ex-US stocks a better buy now?

Three important factors to answer this are

  1. stock prices relative to current fundamentals (earnings, debt, …),
  2. projections for changing fundamentals (earnings growth, interest rate changes, …), and
  3. changes in currency exchange rates.

Let’s look at each of these individually.

Price relative to fundamentals

By almost any metric, US stocks are priced (much) higher than ex-US stocks. This is measured by price multiples like price/earnings (P/E) and price/book (P/B).

More importantly, the difference between US and ex-US multiples has increased. Checkout Figure 12 in this report from Yardeni research. It shows the difference in P/E ratio between US and ex-US stocks since 2001. For the first 15 years P/E ratios of US stocks were mostly 0.5 to 2.5 higher than ex-US. However, in the last few years this difference has jumped to 7!

A similar phenomenon has occurred with P/B ratios, as shown in Blackrock’s April 2023 report.

US stocks are normally priced at higher multiples because they have fundamental advantages and lower risk than ex-US stocks. However, the P/E difference now indicates that these advantages are near an extreme—US fundamentals are poised to outperform ex-US more than ever. Are they? That’s the topic of the next section.

One more point here. When a stock or index performs well over an extended period, there’s often a “momentum” effect that pushes price up, regardless of fundamentals. This is likely caused by recency bias—investors buy the stock thinking future performance will match recent performance. High multiples can be evidence of this phenomenon, but are not a guarantee of it. Let’s conclude this section with a historical example of this effect.

US tech stocks (particularly internet-related) soared in the late 1990s. The NASDAQ-100 climbed 85% in 1998 and doubled in 1999, despite extremely high price multiples. There were many arguments for why this was justified at the time, but what followed was the “lost decade” (1999-2009). That decade resulted in 1.7% annualized returns for the total US market, but 13.7% from emerging markets!

Changing fundamentals

As pricey as a stock may seem, it’s cheap if its fundamentals grow fast enough. This is the concept behind growth stocks: investor’s pay high multiples expecting fundamentals to “catch up” and eventually pass the current price. Could this explain the high price of US stocks? Are their fundamentals expected to grow that much faster than international stocks?

Unfortunately, predicting future growth is very difficult. This may be evidenced by a long history of value investors outperforming growth investors. We’ll discuss various opinions about US vs. ex-US growth here, but please remember such speculations are often wrong (even when they seem very logical).

Morgan Stanley, in a 2023 investment outlook, predicted outperformance for emerging markets due to conditions normalizing in China (past COVID lockdowns) and an end to the strengthening of the dollar.

Blackrock, in a recent insight article, noted that ex-US EBITDA margins have steadily increased recently, and are on pace to surpass the US in 2023.

A potential disadvantage for ex-US stocks is inflation. As bad as it has been in the US, many expect ex-US countries like Australia, Germany and the UK experience worse inflation.

Another disadvantage for ex-US businesses is their debt structure. Ex-US companies carry more adjustable-rate debt than US companies. Many US businesses obtained low interest rate debt in the last several years, while their ex-US counterparts are being forced to pay increasing interest payments.


Currency exchange rates have hurt ex-US stocks recently. Let’s say you buy an ex-US stock that trades for 1 Euro, and 1 Euro is worth 1.2 USD. You have to pay 1.2 USD for that stock. If the dollar strengthens to be even with the Euro, and you sell the stock at the same price you paid (1 Euro), you only receive 1 USD (20% loss of USD). Worse still, many ex-US businesses have USD-denominated debt. The stronger the dollar the more their debt burden becomes relative to their local currency. In short, if you foresee a strengthening dollar, you have less motivation to invest in ex-US stocks.

So will the dollar strengthen or weaken? Unfortunately this is very hard to predict. Many experts predicted a significant decline in the dollar this year. Although the dollar is below its September 2022 high, it’s actually up in 2023 to date. It has repeatedly surprised people to the upside thus far in 2023.

In late April 2023, Blackrock shared a report including their belief that the dollar will weaken in the foreseeable future. They cited two reasons: (a) US interest rate hikes nearing completion and (b) further China re-opening effects. They foresee the 2022 peak as a long-term high for the dollar and point out (same report) that such peaks are followed by ex-US outperformance.


US stocks are priced at higher multiples than ex-US, as usual. However, they are higher by an unusual amount, including a full 7 point premium on the P/E ratio. This extremity of price difference should be associated with strong reasoning for how and why US businesses (and/or currency) will substantially outperform ex-US over the next decade.

There are plausible arguments for and against US outperformance, but none appear extremely solid in my view. While I’m definitely not certain, I feel the price extremity is more likely due to investors chasing recent US returns (recency bias), and perhaps Americans exercising a home country bias. Even if I’m right, this doesn’t mean ex-US will start outperforming now. After all, these biases can remain for surprisingly long time periods, and could drive even more extreme price mismatches.

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