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Welcome to MONEY for the Rest of Us. This is a personal finance show on Money. How it works, how to invest it, and how to live without worrying about it. I'm your host David Stein. Today is episode 503. It's titled US Stocks have Never Been this Overhyped Yesterday I pulled up our Asset Camp app. This is our stock and bond market index research tool and I wanted to see the updated data and see what was the top performing stock indexes in November for the 46 stock markets around the world we track. The top seven were US stock indexes including Mid Cap Growth which was a leading performer. IT gained over 12% last month. If we compare US stock returns overall, this would be representative by The S&P 500 index, the topic of episode 500 of Money for the Rest of Us USA stocks returned 6.2% in November, the rest of the world excluding us so the MSCI all country world ex us fell 0.9% in US dollar terms last month. The level of outperformance of the US is astounding. Year to date, 28% return compared to only 7.6% for all country world ex US. That includes emerging markets. One year US stocks have outperformed non US by 20 percentage points, by almost 8 percentage points over three years, by 10 percentage points over five years, 8 percentage points over 10 years and 5 percentage points over 20 years. Why in the world would we ever not put all of our stock investments in the US Stock market? Well, it turns out there are some reasons why, but but doing so led to massive underperformance over the past decade. If we go back to the end of the bear Market in March 2009, an investment in an S&P 500 index fund or ETF would have returned 1,000%. You would have made 10 times your money investing in the S and P, whereas had you invested outside of the US you would have only returned two and a half times your money. So a 270% return compared to 1000% return for the S&P 500. Investors in the US are incredibly bullish, especially after the US presidential election with perhaps lower taxes, reduced regulations, tariffs that could benefit US companies compared to the rest of the world. Also on Asset camp, we have a 10 year stock market performance attribution. I look at that every month and we share that as part of our monthly webinar for Asakamp users. Over the past decade, as I mentioned, US has returned 12.4% annualized compared to non US including emerging markets 4.8%. That outperformance has been driven by US stocks getting more expensive that added over 3 percentage points to return, whereas a strengthening dollar cost non US stocks 2 percentage points. US stocks have grown earnings faster 7.4% compared to 5% earnings growth for developed non US and only 4% earnings growth non US including emerging markets. In that episode 500, we talked about how Goldman Sachs was predicting a 3% annualized nominal return for the S&P 500 over the next decade with a range between 1 and 7%. If that happens, it will be because earnings growth has slowed or valuations have gotten less expensive. After episode 500 where we talked about US stocks in the S&P 500, I got an email from a listener that talked about some intangible elements or even tangible elements that could be contributing to US Stock outperformance, such as the superior availability of capital that US Companies have access to to invest in new products and services, the network of venture capital investments for startups, perhaps a immigration and higher education system that attracts top technical and entrepreneurial talent from the around the world. Maybe it's more productive and efficient companies with greater profit margins. All of those things clearly do benefit the US to some extent, and they have contributed to strong stock market returns. Many of those factors would coalesce into higher earnings growth per share, and that's what we've seen over the past decade. In this episode though, we want to look at certainly things that are in favor of the US but also some things that should give us some pause before we sell all our non US stocks and plow it all into US Stocks. Before we continue, let me pause and share some words from one of this week's sponsors. I've been telling you for over a year how pleased I've been with Deleteme, the subscription service I use to remove my personal data from data brokers. Delete Me. Recently let me give gift subscriptions to anyone I chose, so I gave them to my sons and they have been using this service and have been excited to get their first report to see what data of theirs has been removed. You see, data brokers make a profit off your data. 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The only way to get 20% off is to go to JoinDeleteMe.com David20 and enter code David20 at checkout. That's JoinDelete Me.com David 20 code David20 now there was recently an article in the Economist and they pointed out how the average American worker will generate $171,000 in economic output. This is a measure of GD per capita or per person 171,000 compared to 120,000 for the euro area, 118,000 in Britain and 96,000 in Japan. The US is producing more per person. They're more productive in terms of what the economy produces. And surprisingly, that growth rate that got to that 171,000 has been about 2% per year per capita GDP growth since 1860. Now some will point out, well, the US is more productive, creates more wealth per person, more income per person because US workers work more hours than Europe, UK or Japan. But even correcting for that, the US is wealthier and more productive. Economist points out a number of reasons. One is investment. The US has invested a higher percentage of GDP in all things that lead to faster growth than it includes infrastructure like highways, warehouses. It includes investments in leading technology. There's the Defense Advanced Research Project Agency DARPA that invests billions of dollars a year in new emerging technologies. Their investments over the decades have contributed to the development of the Internet, Global Positioning Systems and even MRNA vaccines. With the exception of Israel and South Korea, the US invests more in R and D than any other country, about three and a half percent of GDP. China is also pretty close to that 3.5% level, but the absolute dollar amount is more in the us. Economist Charles I. Jones, who's with Stanford, wrote a paper that I'll link to that talks about the key to long term economic growth, that 2% year over year. Real growth in GDP per capita comes down to ideas. Income per person, he writes, depends on the total number of ideas ever discovered. And those ideas come from researchers, entrepreneurs Scientists. So if we have more people, more researchers and better educated workforce, that leads to more ideas, which is what leads to economic growth, greater productivity. Over the past two decades, productivity growth has slowed and population growth is slowing. There's some suggestion that ideas are harder to find, that educational attainment is stagnating, that bureaucracy and red tape is making it more difficult for new companies to form or to advance new ideas. An article in the Financial Times by Ruschair Sharma, who's chair of Rockefeller International. His calculations found that productivity growth has fallen the most in the European Union due to excessive regulations. It's also fallen in the US but less dramatically. So the US has invested in ideas over the decades. It's invited talent in. It has a vast network to fund new ideas and new startups. And that has helped. There's also a great deal of dynamism in the US which the Economist points out. The number of companies that are formed and dissolved in the year, about 20% of companies annually compared to only 15% in the European Union. The US labor force is more dynamic. In any three month period, 5% of the workers in the US change jobs. Economist points out it would take a year in Italy to see that level of labor turnover that occurs within three months in the U.S. they point out that that employment churn and the willingness of workers to move out of state leads to more workers going into the most productive sectors. And when we look at what are the areas of the greatest productivity increase in the US it's been in tech, finance and professional services. That's where the US is leading in productivity increases. Whereas in other sectors such as retail, Europe is also still very strong. Here's the thing though, about advances in technology, in the spreading of new ideas, there is knowledge spillover. I'll link to a couple academic studies where they focus on how due to technology transfer and we can think of what's going on with AI right now. The ability to use AI is available through most of the world. Even though a lot of the major companies are in the us we can all benefit from that. And when we look at the data over time, it shows that the growth in the economy, GDP per capita at 2% per year, that's been consistent across other countries. Also, the US is not growing its economy that dramatically faster than other countries. It's gotten a head start, so it remains wealthier than other countries. And there has been periods of greater productivity growth and the slowdown in productivity growth. It has slowed less in the US than overseas, but over longer periods of time due to technology transfer, knowledge spillover, other advanced economies and developing countries, they're also able to grow. And because everybody's growing, those that are wealthier remain the wealthiest countries that you don't see a big catch up in terms of, for example, developing countries overtaking developed economies in terms of output per person. The biggest contributor to productivity growth is technology changes about 80% of what leads to increases in productivity. So no doubt when we look at the US there are tangible and intangible elements that allow the US to have had high levels of productivity growth. It's led to higher earnings per share growth and led to significant outperformance of the US Stock market. But there are also some things that should give us some pause. I'll link to a paper by James Montier. He's with gmo, and he refers to something called the Kalecki profits equation. And this is something that I was very steeped in in the latter part of my professional career following the great financial crisis as I was trying to figure out, well, what could we have done better? What do we miss? There are these macro identities, these formulas that explain on a macro basis what drives corporate profits. And we've talked about macro identities in the past. And this formula shows that overall corporate profits, both public and private sector, it's a function of investment by companies. If companies are investing in something new, that can lead to greater productivity, but those purchases flow to the profits of some other company. When companies pay dividends, that's income that flows to shareholders that could be spent buying things, which leads to higher corporate profits. Now those are the two main drivers. It's investments and dividends purchases. But here's what reduces corporate profits. If households save more, they're buying less. And that would reduce corporate profits. If governments run a budget surplus, so the government's essentially saving, that means the government's taxing, receiving more in tax revenue than it's spending, destroying money in the process, which means lower corporate profits because households and businesses have less money to spend. Conversely, when governments run budget deficits, then there's spending more than they're receiving in tax revenue. And that income flows into the economy and increases corporate profits. That has been a key driver of higher corporate profit growth over the past decade. The US budget deficit to GDP was negative 2.8% in December 2014 after the tax cuts of 2018. By December 2019, even before the US entered into the pandemic recession, the budget deficit to GDP was up to 4.6%. Then we had the pandemic. But even the recovery has been slow. The 2023 US budget deficit to GDP is 6.3%. It'll be 6.4% this year. Now we can compare that to Europe, where the budget deficit last year was only 3.6%. And so while their budget deficit expanded, it got as high as 7% in 2020, whereas in US it was double digits. They've reduced it by half. But the US is running a budget deficit 3 percentage points higher than Europe. And that budget deficit to GDP has expanded, which means more income profits flowing to corporations because of that. And so with the Trump administration with their focus on reducing government spending, reducing the budget deficit with a task force led by Elon Musk, if they're able to succeed and reduce that budget deficit to gdp, that will have an impact on US Corporate profits. There'll be less income flowing to buy products and services by corporations. Now maybe that will be offset in other areas because the trade deficit or surplus can also contribute to corporate profits as well as this household savings rate, as we mentioned. But we can't ignore these macro factors. An expanding federal budget deficit, which essentially has doubled over the past decade, has helped contribute to the 7.5% earnings per share growth for U.S. stocks, one of the factors that led to higher earnings growth compared to the rest of the world. Before we continue, let me pause and share some words from this week's sponsors. When it comes to creating your own business, the most important part is your ideas. And you want to protect those ideas. We recently used LegalZoom to get trademark protection for asset camp. LegalZoom has everything you need to launch, run and protect your business all in one place. Setting up your business properly and remaining compliant are things you want to get right from the get go, but you don't want to strain your brain or wallet. LegalZoom saves you from wasting hours making sense of the legal stuff. 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Another factor over the past few decades that have benefited US Corporations and their earnings growth relative to the rest of the world is lower tax rates. The reduction in tax rates in 2018 that helped boost corporate profits. No doubt overall lower interest rates have led to higher corporate profits. So to the extent that interest rates remain elevated like they are and tax rates aren't lowered further or maybe even raised, we don't know that can impact corporate profit growth. Now there are a couple of other interesting factors when it comes to the US Stock market. The US has deep financial markets. They're an attractive place to list a company. And there are many companies that are based outside of the US that list shares in the US Last month, the Swedish fintech company Klarna announced that they were going to do an initial public offering and they're not listing the shares in Sweden. They're going to listen their stock shares in the US and so just because a company has publicly traded stock in the US does not mean it's a US company. 40% of the earnings of stocks on the S&P 500 come from overseas. Meanwhile, companies that have their stocks listed outside of the US get 20% of their earnings from the US to global world. Consequently, that raises the question, oh well, if the earnings are coming from overseas for US Listed companies and the earnings are coming from the US for companies that have their stock listed outside of the US there's some overlap there. Why is it that US stocks sell for a price to earnings ratio of 26.7 over 10 points more than the PE ratio of 15 and a half outside of the US are the advantages in terms of investment productivity, longer working hours that much greater in the US Compared to outside of the US that those earnings deserve a multiple as reflected in The PE ratio 10 percentage points higher? Because again, if we go back to that attribution, world ex US has higher dividends, a dividend yield of 3.1% compared to 1.8% for US stock market earnings growth, and this is developed markets was 5.3% for non US stocks over the past decade versus 7.4% for the US stock market. Again, a portion of that higher earnings per share growth was because the US Budget deficit expanded doubled as a percent of GDP and income tax rates dropped. The other big contributor for US outperformance is the stock market got more expensive, went from a PE of 19.3 up to 26.7. That added 3.3 percentage points of annualized return. Whereas developed markets outside of the US their stock market got cheaper. PE went from 16.7 down to 15 and a half. That was a 70 basis point per year drag over the past decade. And then we mentioned the US dollar strengthened by 20 percentage points over the past decade and that cost non US stocks 2% per year. These are the long term factors, numerical factors that we can see. There is all kinds of tangible and intangible things underlying those factors that we've talked about. The investment, productivity, the dynamism. But here we stand at a Precipice where the US stock market makes up close to 70% of the global stock market but US GDP is only 26% of the world. The US stock market is the most expensive than it has ever been relative to the rest of the world. The premium for the US stock market has never been this high compared to non US stocks. And that's why the title of our episode is the US Stock market has never been this overhyped. Rosher Sharma again in the Financial Times said America is over owned, overvalued and overhyped to a degree never seen before. As with all bubbles, it's hard to know when this one will deflate or what will trigger its decline. And we don't. Which is why we continue to have an allocation to US stocks both in our model portfolio examples on money for the rest of us Plus I have it in my portfolio. Having non US exposure has cost us dearly over the past decade. Which is why it's key to understand why to Understand how valuations added 3 percentage points to return strengthening dollar reduced non US returns 2%. That's 5 percentage points per year over the past decade from valuations and currency. We have to understand the underlying drivers so we can make fact based decisions and not just buy into the hype. There are intangibles, but there's also technology spillover. And other countries longer term have been able to grow their output per person at the same level as the US because of technology transfer. Because their workers are also becoming educated, because they're inventing new ideas also and fortunately living standards have increased around the world. I'm glad the US stock market has done incredibly well. But I'm also aware of the risk when valuations have gotten this high. I was a professional advisor assisting institutional clients in 2000. And there was this level of hype back then where growth stocks in this case were priced for perfection and they became imperfect. And so we had seven, eight years where value stocks outperformed growth stocks. Now we've had an extensive period where growth stocks have absolutely obliterated value stocks and US stocks have obliterated the rest of the world. Cycles change and that's why we share with you the data and provide tools for you like Acid Camp and a community like Money for the Rest of Us. Plus so we can talk about these things, share them and understand them and make fact based reasonable decisions and not go to an extreme either way. But to understand that's episode 503. Thanks for listening.
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Everything I've shared with you in this episode has been for general education. I'm not considered your specific risk situation not provided investment advice. This is simply general education on money investing in the economy. Have a great week.