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The markets and sectors where investors can make best returns

·Business Reporter, Yahoo Finance UK
·4-min read
Where should investors look next? The S&P 500 has been on a largely uninterrupted winning streak since 2008, but UBS is now recommending the investors look elsewhere.
Where should investors look next? The S&P 500 has been on a largely uninterrupted winning streak since 2008, but UBS is now recommending the investors look elsewhere. Photo: Michael Nagle/Xinhua via Getty Images

Investors who have been putting their money into the US stock market over the last few years have seen positive returns on their trades as Wall Street demonstrated an impressive outperformance compared to the global stock market.

Last year, the S&P 500 (^GSPC) delivered a 29% total return, versus just 19% for the global MSCI All Country World Index (MMW=F). This was one of the worst underperformances on record for global stocks.

The S&P 500 has been on a largely uninterrupted winning streak since 2008, which is a stark contrast to the early 2000s, when the US tech bubble made it the worst-performing regional market for several years in a row.

Due to this, many traders have been frustrated by the weaker performance of other markets and have adopted an overweight to the US in their portfolios.

UBS Global Wealth Management’s (UBS) latest CIO investment strategy insight report has taken a look at the markets and sectors investors can invest in beyond the US.

The report suggests that the current rally will not last forever due to falling interest rates, expanding valuations and profit margins, and a strong US dollar. It expects international stocks such as Europe and Asia to outperform going forward.

“Although we are optimistic about the outlook for US stocks, we see a number of factors that are likely to drive international stock market outperformance in the years ahead, and we therefore recommend that investors maintain a globally diversified portfolio, with around 40% of your stock allocation in international developed and emerging market stocks,” it said.

Read more: European markets fall as eurozone inflation hits 5%

The US stock market currently makes up about 61% of the global stock market capitalisation, which is up substantially from about 44% in 2003. But Wall Street appears expensive versus its international peers.

According to the latest data, the S&P 500 trades at about 22.6 times the consensus estimate for 2022 earnings, which is 50% richer than the MSCI Europe Index (EUFN) (15x) and represents an 84% premium over the MSCI Emerging Markets Index (MME=F)(12.3x).

UBS added that this valuation gap is also evident when comparing US stocks versus its international peers based on a price-to-book ratio.

Not only are US stocks trading at two to three times the valuation of other regional markets, they are also trading at their most expensive level in 15 years.

“Further margin expansion is going to be difficult, especially with interest rates and taxes likely to rise in the years ahead, along with more regulatory pressure for many US sectors,” the report said.

Watch: What is inflation and why is it important?

As the US share of the global “pie” is expected to keep shrinking, investors could make great returns with emerging market economies, particularly as they contribute a greater share of economic growth and open their economies to public markets.

These stock markets are more value-oriented, with a higher weight to sectors such as

financials and energy—sectors that should outperform in periods of accelerating economic growth and rising interest rates. They may also help to protect the portfolio against persistent inflationary pressures.

UBS advised: “If you are happy with everything in your portfolio, it's a good sign that you're not diversified.

“The only way to make sure that you own tomorrow's winners—and limit your exposure to tomorrow's losers—is through a globally diversified approach.

“A global stock portfolio will never give you a higher return than every individual country, but it will also never give you the lowest return.”

Diversification can also help protect against risk.

Read more: London Stock Exchange: Year in IPOs

In terms of currencies, the US dollar is somewhere between 10% and 20% expensive versus US trading partners' currencies, UBS said.

“Although we think the US dollar will appreciate in the short term at the time of publishing this report, we expect it to weaken against major currencies such as the euro over a full business cycle.

“A weakening US dollar can provide a tailwind to US investors who own international investments that don’t hedge their currency exposure."

Watch: What are SPACs?