US large cap stocks, measured by the S&P 500, have been on an unprecedented run of outperformance versus international markets for well over a decade—longer than any previous cycle. A handful of domestic mega cap companies “Magnificent Seven” (Mag 7) have driven much of the S&P 500’s recent gains, and the surge in the US dollar has also dampened returns for US-based investors holding international assets. However, once currency effects and outsized gains by a small group of US firms are stripped away, global markets have held up more competitively than headline numbers suggest.

Despite the strong US dollar, which has gained roughly 20% since 2021, international equities—especially in local currency terms—are performing better than many believe. Given cyclical trends, the dollar’s upward momentum is unlikely to continue indefinitely. Factors such as mounting US debt, slowing domestic growth relative to other regions, and changing global alliances could eventually drive a weaker dollar, historically tailwinds for foreign stocks.

Additionally, the US government’s aggressive fiscal and monetary approach—sizable deficits, elevated government spending, and historically low rates—helped spur domestic growth and stock performance for many years. But with interest rates much higher than they have been for almost 20 years, these strategies may be harder to maintain, and their future impact on equity markets is uncertain.

From an investment standpoint, consistently staying diversified remains prudent. Over time, leadership between US and international markets has rotated, and every previous period of US dominance has eventually reversed. Adding or maintaining exposure to underperforming regions can pay off if cycles shift—something history suggests they invariably do.

For over a decade, US large cap stocks, as measured by the S&P 500 Index, have outperformed foreign stocks. The obvious question is: Why invest in international markets if returns have been lower for the last decade? Historically, leadership between domestic and foreign stocks has been cyclical, with one area outperforming the other for several years in a row. In the chart below, note how international outperformed the US from 2002-2009, with the US leading in only 2008. From 2010 through 2024, US equities, as measured by the S&P 500 Index, outperformed in 12 of the 15 calendar years. This period marks the longest duration of US outperformance in history.

For 2024, US returns are represented by the total returns of S&P 500 Index (25%) and international by the MSCI EAFE Index (4%) to get to -21%, rounding to nearest percent.

The US economy has benefited from game-changing domestic companies. Meta, Tesla, Microsoft, Apple, Alphabet, NVIDIA and Amazon, known as the MAG 7, have been responsible for a significant portion of the stock market’s performance. Over the last two years, these seven firms have accounted for over half of the S&P 500’s total performance. Despite rapid earnings growth, their stock prices have increased faster than earnings growth, and valuations of these companies have grown and are nearly double that of the overall index. However, when excluding the influence of these mega companies and currency effects, international markets have performed similarly to the US.

The S&P 500, driven by large firms, outpaced the international indices, but when adjusted for currency, international performance improved significantly. The EAFE international index, in local currency terms (no impact from US dollar) has risen 19%, which compares favorably to the S&P 500 Equal Weight Index, measuring the performance of all S&P 500 stocks in equal proportion, a good measure of the overall equity market. The traditional market cap-weighed S&P 500 Index is heavily influenced by the top ten holdings, which currently account for over 37% of the index, more than the 27% level reached at the peak of the tech bubble in 2000. The concentration of returns within just a few stocks could be problematic if investors become concerned about elevated valuations, higher interest rates, or an economic slowdown.

A major factor behind international stocks lagging in recent years has been currency weakness— falling values for foreign currencies. The US dollar’s strength has made foreign investments less profitable for US investors, as the value of international returns diminishes when the local currencies fall vis-à-vis the dollar. Removing the impacts of currencies, international markets have shown stronger performance than originally indicated. The US dollar has gained about 20% since 2021, putting downward pressure on returns of foreign stocks held by US investors. Since the beginning of 2024, the US dollar has appreciated 5.9%, dampening international returns. The rising dollar has had a similar impact on emerging market equities, reducing returns over the same period by 5.4%.

The US dollar has appreciated in value for several reasons:

1. The US Federal Reserve raised interest rates aggressively in response to inflation concerns. Higher interest rates make some US assets more attractive to global investors, which drives up demand for dollars needed to purchase these assets.
2. The dollar is considered a “safe haven” currency, meaning that during times of global uncertainty or economic stress (like the pandemic or war in Ukraine), investors headed to the dollar for safety.
3. The US economy, despite facing inflation and the pandemic, has been relatively resilient and has grown faster than many other global economies.

Strong economic growth, low unemployment, and robust consumer spending have helped strengthen the US equity market and drive increased demand for the dollar by foreign investors.

Historically, global currencies appreciate and depreciate, but do not continue in one direction permanently. There are a few reasons why the US dollar could begin declining:

1. The US debt level has grown substantially and is projected to continue rising. If investors become concerned with the US’s ability to make interest payments, it would reduce the attractiveness of the dollar.
2. Since 2021, US growth has exceeded growth in the developed markets and has narrowed the gap between faster growing emerging markets. However, growth is projected to improve in Europe, Japan, and some emerging countries while slowing down in the US. If the growth gap narrows, investors may adjust capital flows toward areas that offer relatively attractive growth and valuation measures. US based investors would need to sell dollars to purchase local currencies, which typically weakens the dollar as demand falls.
3. Global unrest or unified resistance to US policies could dampen interest in the dollar. If foreign governments believe they are being unjustly targeted by US trade policies, they may form alliances that exclude the US and reduce trade and interest in holding dollars.

Any future weakness in the dollar could be beneficial for international investments. Historically, international stocks post their best relative performance when the dollar is weakening.

US large cap stocks have had a strong run, both in absolute and relative terms. There are several reasons why this historic run has been so prolific. In addition to a rising US dollar and the exponential growth of a few mega cap stocks, the US has had a very aggressive fiscal and monetary policy. Starting with the financial crisis and recession in 2008, the government has been running a substantial deficit, exceeding 5% of GDP annually over much of the last decade. At the end of 2024, total debt to GDP was about 120%, double the average since 1970. When interest rates were very low, interest payments on debt were more manageable. As interest rates have risen, an increasing percentage of the budget is being earmarked for interest payments. Elevated government spending coupled with tax cuts has helped fuel growth, but this may not be sustainable in the long run. The US has no doubt enjoyed an enviable period of economic and stock market growth. However, it’s unlikely we will continue to rely on the same factors that have driven much of this growth for the last fifteen years.

It is very difficult to call the outperformance rotations between US and international stocks. Therefore, having exposure to international stocks, despite their extended period of underperformance, should prove to be beneficial if the rotation eventually develops. The same factors that have driven US outperformance may not continue, and if not, having exposure to regions and markets that have lagged should be beneficial. Investors that stay diversified and maintain exposure to markets that have lagged have historically been rewarded as every cycle in the past has reversed, even though it seemed destined to continue.

Past performance is not indicative of future results, and international investments involve risks such as currency fluctuations and political instability. Performance figures are based on publicly available data, and indexes are not available for direct investment and do not reflect advisory fees or transaction costs. Any projections are based on historical data and current market conditions, but there is no guarantee that future market trends will align with these projections.