Last Monday, the National Bureau of Economic Research declared the longest economic expansion in U.S. history over. After beginning in June 2009, the expansion lasted for 128 months through February. Born in the depths of a severe financial crisis that started at home, many worried the U.S. would suffer a long decline. In the ten and one-half years that followed, the U.S. economy and markets outpaced most others, leaving domestic stocks with premium valuations.

Even though U.S. stocks appear relatively expensive, we should remain tactically overweight domestic assets for now because dollar-denominated assets can convey significant benefits during times of uncertainty and because the U.S. economy remains more robust, durable, and better balanced than others.

Domestic Stocks at a Premium Valuation

One way to measure the relative valuation of a nation’s equity market is to compare the stock market value to its economy’s output. This measure is a crude one, but a reasonable place to start. At $32 trillion, the U.S. stock market is worth 1.5 times annual gross domestic product (GDP) of $22 trillion. Non-U.S. markets are valued at about 0.7 times GDP, roughly half of domestic valuations. The relative valuation is therefore 2.1 times (1.5x / 0.7x = 2.1x). It is not unusual for the U.S. to trade at a premium valuation. Historically, foreign stock market valuations were typically 30-50% of U.S. valuations. Still, we find that today’s valuation levels place the United States’ equity market at the upper end of the historical range (chart, below). This premium valuation should reduce the long-run expected return of U.S. stocks relative to foreign somewhat.

Dollar Benefits

Even though U.S. stocks appear relatively expensive, we should remain tactically overweight domestic assets because dollar-denominated assets can convey significant benefits — especially during times of uncertainty.

The United States dollar provides the world with a vast, liquid, dependable market for foreign exchange. Despite protests, the world appears unwilling to give up the dollar. Today, 60% of countries peg their currency to the greenback (versus 30% in 1950). 90% of global financial transactions take place in dollars. 75% of foreigner’s borrowing takes place in U.S. dollars. The dollar is also the currency in which most nations hold reserves.

When fears arise, the dollar is often seen as a “safe harbor” currency. Consider that in 2011, when Standard & Poor’s downgraded U.S. sovereign debt, the dollar rallied by 20% in the months that followed. More recently, when Coronavirus hobbled the global economy, foreigners worried they might not be able to get enough dollars. We see the dollar as the go-to funding currency that will likely be in demand during times of stress.

Some make the case for non-dollar equity holdings on the basis of a presumed diversification benefit. Here, we see much less benefit than in the past. The chart below shows the 60-month rolling correlation between the S&P 500 (domestic stocks) and the MSCI All-Country World Index (global stocks). As you can see, the correlation jumped to nearly 1 in the mid-1990s. This means that the degree of diversification benefit is much less today than it was in the past.

Lastly, the dollar is the currency that most Americans will need for future purchases. Unless planning to live abroad in retirement, most Americans will be making purchases in dollars. Investing in assets denominated in the same currency as the future liabilities simplifies the task of financial planning.

A Relatively Strong Economy

The most important reason we should remain tactically overweight domestic assets is that the United States’ economy appears stronger than many others.

From June 2009 through February, U.S. stocks returned 300% (S&P 500) while global stocks returned 160% (MSCI All-Country World Index). China’s stock market returned a mere 23% in total. In real terms, the U.S. economy expanded 28% versus 17% and 14% for Japan and Europe, respectively (chart, below). The domestic stock market dominated global returns for the last decade. The strong market performance reflects the relative strength of the U.S. economy in our view.

The above chart shows the cumulative growth in gross domestic product for the United States, Japan, and Europe from 2010-2019. The figures expressed are measured in real terms after adjusting for the effects of inflation.

Additionally, the sources of growth in the U.S. appear well balanced. Over time, growth comes from one of two sources — increases in labor or growth in productivity. As the chart below shows, the last decade’s domestic growth came from a balanced mix of productivity and labor growth. Japan and Europe’s labor forces are experiencing stagnating growth. Whatever growth these nations can muster must come from productivity alone. More balanced growth in the United States reduces risks that come from over-dependence on a single growth factor.

This analysis looks at the drivers behind growth in the three economies from 2010-2019. Economists analyse the sources of growth for an economy as coming from one of two sources: growth in labor or growth in productivity. As you can see, the mix of growth drivers was relatively well balanced between growth in labor and productivity over the period. Growth in Japan and Europe was heavily skewed to productivity. Demographics hurting labor force growth is disproportionately hurting growth in Japan and Europe.


Although U.S. stocks appear relatively expensive on the surface, we should remain overweight domestic assets for two main reasons. First, dollar-denominated assets can convey essential benefits. But most importantly, the United States economy appears more robust, durable, and better balanced than many others.

While many thought the U.S. would suffer a lost decade, the past ten-plus years has been anything but “lost.” This fact does not mean that the next year or next decade must be a repeat, but it does remind us always to keep an open mind to possibilities.

The longest expansion on record has officially ended. The months ahead will present a world of new challenges and new opportunities. One of the crucial decisions for investors to make involves the choice of investing at home or abroad. For now, we remain with our long-held tactical tilt in favor of domestic assets over foreign as uncertainties abound regarding the pace of global growth, shifting demographics, and rising debt.

WCA Barometer Update: We update our monthly WCA Fundamental Conditions barometer early each month. The data continues to reflect the impact of Covid-19 and shutdowns. From severely depressed levels, we forecast some pickup ahead (chart, below). We caution that the sudden nature of the onset of the pandemic makes month-to-month trend analysis difficult. To accommodate this, we are also following a set of weekly data and update our readers regularly on virus trends, mobility, and higher-frequency economic data.

After a sharp drop in March-April, our barometer of fundamental conditions appears to be bottoming. We expect some further improvement through the summer months.

Kevin R. Caron, CFA
Senior Portfolio Manager

Chad Morganlander
Senior Portfolio Manager

Matthew Battipaglia
Portfolio Manager

Steve Lerit, CFA
Senior Risk Manager

Paul Clark, CFA
Senior Portfolio Manager
Municipal Fixed Income

Rick Marrone
Senior Portfolio Manager
Municipal Fixed Income

Suzanne Ashley
Internal Relationship Manager

Eric Needham
Director, External Sales and Marketing

Jeffrey Battipaglia
External Sales and Marketing

S&P 500 — The Standard & Poor’s 500 Index is a capitalization-weighted index that is generally considered representative of the U.S. large capitalization market.

The S&P 500 High Beta Index measures the performance of 100 constituents in the S&P 500 that are most sensitive to changes in the market. Constituents are weighted relative to their level of market sensitivity, with each stock assigned a weight proportional to its beta.

The S&P 500 Low Volatility Index measures performance of the 100 least volatile stocks in the S&P 500. The index benchmarks low volatility or low variance strategies for the U.S. stock market. Constituents are weighted relative to the inverse of their corresponding volatility, with the least volatile stocks receiving the highest weights.


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