U.S. stocks have been outperforming their non-U.S. counterparts since early February. That's when President Donald Trump started his "America First" protectionist campaign aimed at making free trade fairer trade with America's major trading partners.
During the current bull market, I had been recommending a “Stay Home” investment strategy until the fall of 2016. On November 8, 2016, I switched to a “Go Global” strategy on mounting evidence that the global economy was rebounding from the worldwide energy-led mini-recession of 2015. I returned to Stay Home in early June of this year in response to the escalating trade war.
U.S. stocks have done even better against major overseas stock indexes priced in local currency so far this year, because the U.S. dollar DXY, -0.14% has soared in response to Trump's escalating trade war (Fig. 1). Meanwhile, the 10-year U.S.Treasury bond yield TMUBMUSD10Y, -0.54% has remained below 3.0% since May 24. All this suggests that the greenback and U.S. financial assets are both viewed as the winners in a trade war.
That said, Stay Home isn't all about a risk-off approach to overseas economies. In fact, I believe that the outperformance of Stay Home so far this year also owes a lot to Trump's stimulative tax cuts at the end of 2017. The preceding statement doesn't seem to apply to the trade-weighted dollar, which jumped 7.4% since the year's low on February 1 through Tuesday of this week (Fig. 2). This coincides with the implementation of Trump's America First trade campaign.
I have often observed that the dollar tends to be strong (or weak) when the rest of the world is looking relatively weak (strong). That explains why the dollar tends to be inversely correlated with commodity prices, as measured by the Goldman Sachs Commodity Index (GSCI) ((Fig. 3). So far this year, the GSCI is holding up reasonably well. However, it is heavily weighted with the prices of petroleum products, which have been propped up by looming U.S. sanctions on Iranian crude oil.
Looking somewhat weaker is the CRB raw industrials spot price index, which has been weighed down by a significant drop in the price of copper in recent weeks. The price of copper remains highly and inversely correlated with the value of the dollar (Fig. 4) and (Fig. 5).
Of course, some of the relative weakness in the rest of the world reflects the relative strength provided the U.S. economy by Trump's tax cuts. Fed officials continue to say that while the trade war may be a threat to U.S. economic growth, they believe the economy will remain strong enough to justify further hikes in the federal funds rate from 1.75%-2.0% currently to possibly 2.75%-3.0% in 2019. Meanwhile, both the European Central Bank and the Bank of Japan show no signs of normalizing their official interest rates, which remain abnormally low — just below zero (Fig. 6).
The main reason why Stay Home has been outperforming Go Global since the start of the bull market is that the forward earnings (i.e., the time-weighted average of consensus estimates for this year and next year) of the US MSCI stock price index has outpaced the forward earnings of the All Country World ex-US MSCI (in local currencies). The former is up 172% since it bottomed during the week of April 30, 2009 through the week ending Aug. 2 of this year, while the latter is up 78% over the same period (Fig. 7) and (Fig. 8).
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Ed Yardeni is president of Yardeni Research, Inc., a provider of global investment strategy and asset allocation analyses and recommendations. He is the author of “Predicting the Markets: A Professional Autobiography.” (2018). Follow him on Twitter and LinkedIn.
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