Geographic Equity Allocation Is BrokenBy datatrekresearch in Blog
Even though we are based in New York City, a substantial portion of our customer base is spread across Europe and the United Kingdom. Our interactions with them give us a different perspective relative to what we hear from US clients. Sometimes the difference can be startling.
For example, American investors tend to see the dominance of Big Tech stocks in US equity markets as deeply problematic. Apple, Microsoft, Alphabet, Amazon, Nvidia, Tesla and Meta are a combined 27 percent of the S&P 500. Moreover, they are collectively responsible for all the index’s gains for the year. That lopsided outcome has created the impression that US equities are dangerously overvalued.
Our European clients generally see things very differently on this issue. They view US Big Tech as a scarce and highly valuable investment option since they all have global addressable markets, high returns on capital, and strong competitive positions. Only ASML and SAP really fit that description in their home public equity markets. On top of that, America’s preeminent position in venture capital means that whenever the “next big thing” arrives, US startups will quickly be able to dominate whatever novel technology comes to the fore. Apple and its Big Tech brethren may not dominate forever, but the companies that replace them will also likely be US listed companies.
Despite that insight, we find many European institutional investors are actually underweight US stocks without even realizing it. Consider the current MSCI All-Country Index geographic weights:
- US: 61.0 percent
- Japan: 5.7 pct
- United Kingdom: 3.7 pct
- China: 3.2 pct
- France: 3.0 pct
- Canada: 2.9 pct
- Switzerland: 2.5 pct
- Germany: 2.1 pct
- Australia: 1.8 pct
- Taiwan: 1.7 pct
Because of home country bias, many European investors have at least 10 percent allocations to their local markets but, as these MSCI weightings show, that is clearly too much. Our own view is that US equity markets should be 70 percent of a global equity portfolio. That leaves any remaining allocations to European markets at more like 1-2 percent apiece.
Now, we have heard from clients on both sides of the Atlantic that either 1) history suggests European stocks are due for a long period of relative outperformance or that 2) US equities are too expensive to own here. On the first count, we would be tempted to agree if the Tech sector weightings in Europe and the US were similar, but they are not (28 versus 7 percent). On the latter point, there is a very good reason that US stocks are so much more expensive (18x versus 12x on forward 12-month earnings). Tech deserves a higher multiple than Financials, Industrials and Health Care, the 3 largest weightings in MSCI Europe.
Takeaway: While simple, this analysis is a clear call to action for European institutional investors. Whether global equity returns are low or high over the next 5-10 years, outperformance will likely come from owning the right sectors and that essentially means owning the right geographic market. Every percentage point of portfolio weighting will matter, and our view is that an overweight to US equities/Big Tech is the most straightforward approach to outperformance.