The US stock market has outperformed the rest of the world since 2009, the end of the global financial crisis. The US economy has also outpaced the rest of the developed world. And the US dollar gained against its major trading partners.
So as the US heads into its 250th birthday, should investors expect the US to sustain this lead?
This article is for information only and not personal financial advice. If you’re not sure what’s right for you, a financial adviser can help.
What’s driven US stock market outperformance?
The recent strength of US stocks was triggered in part by the launch of ChatGPT in 2022. This led to the surge in the Magnificent Seven – the technology companies seen as benefitting most from the potential of AI.
However, the outperformance goes back much further. The UBS Yearbook tracks the performance of 23 global stock markets back to 1900 – and the US led the pack. Over this 125-year history, the US – already the world’s leading economy – has risen to become the dominant stock market, while the US dollar has become the world’s reserve currency.
Still, the US stock market has not always outperformed.
It lagged the broader global stock market in the 1970s as US inflation soared, in the 1980s when the soaring Japanese stock market briefly took the role of the world’s largest stock market, and in the 2000s, as emerging markets surged. On a longer-term view, the US market fell 89% from its 1929 peak to the trough in 1932, triggering the Great Depression.
To assess whether this recent outperformance will continue, it helps to dig deeper into what drove the rally since 2009. And we consider two scenarios – what would have to happen over the next ten years for the US to underperform and outperform. Remember though, past performance is not a guide to future returns.
Decomposing historical outperformance
Antti Ilmanen at fund manager AQR has written three books on what returns investors should expect. He studied the historical outperformance of the US versus the rest of the world from 1980 to 2025 of 2.5% a year.
He breaks it down into three components: earnings growth, dividend yield, and the change in share price valuations. He looks at hedged returns, which removes the currency effect.
Over this 45-year period, US earnings outpaced those in the rest of the world by 0.8% per annum.
The difference in returns from company dividends was close to zero.
The impact of a change in valuation was 1.8% per annum.
So, the outperformance can be partially explained by better corporate earnings growth. But around two thirds of the difference was due to an increase in relative valuations – the US market has become more expensive compared to the rest of the world.
The picture since 2010 is even more stark.
US stocks outperformed by 5% per annum. US earnings per share grew 2.4% a year faster but the contribution of dividends was -1.2%.
US companies have increased their use of share buybacks over this period, which boosts earnings per share growth but means that less of these earnings are paid back to shareholders in the form of dividends. The effect of an increase in valuations was a huge 3.8% per annum.
The view from the future
We can better understand the risks in our investments by thinking through possible futures.
If we look back in a decade’s time and find the US has underperformed the rest of the world, what are the likely reasons why?
We see the most likely reason as being a fall in relative valuations. The cyclically-adjusted price-earnings ratio for the US stock market – a measure that looks at the last 10 years of earnings – is 39.6, a level only exceeded in 1999/2000 at the height of the internet bubble.
So, a fall in valuations towards the long-term average would not be a surprise.
US corporate profits as a share of the economy are also at high levels and a falling profits share would also weigh on stock returns.
The US dollar is expensive against its global peers based on purchasing power. A fall in the currency would also weigh on returns for UK based investors.
And if the US has outperformed, what will we see in the rear-view mirror?
The massive investment in artificial intelligence (AI) capabilities currently underway by the leading US tech companies might have paid off. Current valuations might have been justified if AI delivers significant increases in productivity that powers stronger economic growth, earnings growth and sustained high profitability – outpacing the gains across the rest of the world.
So which future should investors expect?
In reality, we simply cannot know.
Some investors may hold a strong view either way and may position their portfolios in a way to take advantage. But in general, we always recommend diversifying across global markets – including the US.
Investing can help your money grow, but the value of investments can rise and fall, so you could get back less than you put in. Investing is for the long term, typically 5 years or more.
