April was wild. We end the month at about the same place we left off in March, but there were dizzying swings along the way. With the announcement of significant tariffs imposed on nearly all trading partners investors quickly did back of the napkin math to reprice what companies would be worth under the new order. Hit hardest were the ones who relied on cheap manufacturing abroad whose import costs would skyrocket. One example is RH (formerly Restoration Hardware). They use cheap Asian labor to make their furniture and ship to the US, charging a premium to domestic customers. During a conference call discussing earnings and tariff impacts the CEO was told by an aide the current stock price and shocked he breathed, “Oh sh**” into his open mic. RH went from about $450 to $123 in a matter of weeks and on that day in particular it was down close to 50%. One journalist opined that they were burning the furniture to keep the lights on. While I don’t think it’s that bad, the point is taken. During any given bull market, there are periods when traders move from one sector to another. This is healthy and normal. What is not healthy is having whole industries upended due to external forces.
The worst of the tariff madness is seemingly behind us and the longer-term underlying trends appear to be evident again. Money was already flowing from US stocks to foreign ones. We have been noting it for the past few months. At first investors were using their gains from Big Tech as a piggy bank to fund investments abroad, but after the tariff announcements money rushed not only out of tech, but also out of importers broadly as described above. As a result, the world versus the US market returns are starting to look pretty lopsided. Year-to-date, Latin America and Germany are up over 20%, Spain and Hungary are over 30% and Poland is up nearly 50%. Momentum has moved abroad. For years now “momentum” investing was essentially a code word for US growth, or more specifically, Big Tech. Two of our major investing tenets are momentum and low volatility investing. When deployed together they produce outsized returns relative to the overall market. For the better part of two decades foreign stocks have gone sideways while US tech accelerated up and to the right with consistent momentum. However, over the last ten months the script has flipped - there is a rotation underway. It’s impossible to determine if it’s the result of repricing US equities relative to foreign ones now that their margins will be squeezed by tariffs, or if it’s just a sign of healthy market breadth expansion. Regardless, if it’s working, we should embrace it.
Twenty years ago, emerging markets and foreign markets more generally were priced at a premium relative to US markets. Meaning investors were willing to pay up for the potential of larger returns due to the faster pace of growth abroad. But after the 2008 financial crisis money flowed into the perceived safe haven of US stocks and the premium slowly evaporated and even turned negative. Back then, the emerging market P/E ratio was about 40x and the US was around 25. Today, investors are paying about 15 times earnings for European stocks, 11x for Chinese stocks, but about 27x for US stocks. The narrative is boring because it doesn’t come with fancy new phones or AI models, but maybe that’s a good thing and will prevent wild swings in capital. Repricing and rotation can move very slowly but last a long time.
Indices abroad are being driven higher largely by financial and industrial stocks. For the most part these companies have little to no software or AI hype. They are just real-word businesses like banks, manufacturers, industrial leaders, and utilities. Ultimately this is great news and not a sign of the end for US equities. Participation in market growth is broadening around the world for the first time since the Great Recession and that simply means there are more opportunities for us. The likes of Google, Apple, Nvidia, Amazon, Facebook, and Netflix are in little danger of being overtaken by these foreign companies, but making them have to compete for our investment dollars will ultimately drive them further to greatness.