Diversifying out of the US is now crucial

The dominance of the US stock market in recent years, led by tech giants like Apple, Microsoft, and Nvidia, has been undeniable.

These Magnificent Seven companies have driven much of the growth in US equities, with the S&P 500 reaping the rewards of their strong earnings performance.

However, as we sit in September 2024, global investors should seriously reconsider their portfolios. Relying heavily on US stocks, especially tech, could now pose more risks than rewards.

A peak in US valuations?

The US stock market remains highly valued relative to other global markets, such as Europe and Asia.

This is largely due to the heavy weighting of growth stocks, particularly tech, in the S&P 500.

In contrast, indices like the FTSE 100 are dominated by value stocks—cyclicals and defensive sectors that trade at much cheaper valuations. The question now is whether the premium applied to US growth stocks is still justified.

There’s no doubt that the rapid earnings growth of US tech companies has supported these high valuations.

According to Bloomberg, the largest 3,000 publicly traded US companies, as measured by the Russell 3000 index, are expected to grow their earnings per share (EPS) by around 11% this year. This is a significant outperformance compared to the 4% EPS growth forecasted for non-US stocks, as represented by the MSCI ACWI ex-US index.

But does this justify continued concentration in US stocks, especially as macroeconomic concerns start to grow?

Case for diversification

Portfolio construction is not just about chasing returns; it’s about maximizing reward while minimizing risk.

A concentrated portfolio, heavily reliant on US equities, is vulnerable to sharp drawdowns, which can wreak havoc on long-term investment returns.

The early-August 2024 sell-off in global stock markets served as a stark reminder of this risk. Led by declines in US and Asian tech stocks, the sell-off highlighted the dangers of overexposure to a single sector or market.

Interestingly, during this same period, value-heavy indices like the FTSE 100 proved far more resilient. While shaken, they did not suffer the same magnitude of losses as the tech-heavy indices.

And when US markets rebounded, it was the defensive sectors—utilities, healthcare, and consumer staples—that led the recovery. This underscores the importance of sector and regional diversification in protecting portfolios from the volatility of a single market or asset class.

Moreover, bonds also staged a rally during the August sell-off, reinforcing the importance of fixed-income assets in a well-diversified portfolio.

The broader lesson is clear: diversifying across different asset classes, sectors, and geographies is essential to reduce risk and ensure steady returns.

Mounting US economic concerns

Investors are also facing growing unease about the US economic outlook. Manufacturing activity is slowing again, Commercial real estate remains under duress, the housing market is showing renewed signs of stress, and a softening labour market will undermine consumer spending.

Meanwhile, Europe and Asia, while not without their own challenges, are presenting relatively more attractive valuations. Emerging markets, though volatile, offer the potential for higher growth rates in the long term. For investors seeking to balance risk and reward, these regions should be considered as part of a broader strategy to diversify out of US equities.

Hedge against uncertainty

Beyond equities and bonds, alternative asset classes also deserve attention in the current environment. Gold, often seen as a safe haven, has gained ground amid uncertainty over the US economic trajectory. Commodities, too, remain an essential component of portfolios, particularly as inflationary pressures persist.

Structured products, such as notes, which offer tailored exposure to specific markets or sectors, can provide additional diversification and downside protection.

The key to long-term success in investing is not just about chasing the hottest stocks but building a diversified portfolio that can withstand the inevitable market cycles.

Now is the time to reassess and diversify—before the next storm hits.

Nigel Green is deVere CEO and Founder

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Also published on Medium.