International equities underperformed last quarter as trade tensions escalated, manaufacturing activity contracted and the U.S. dollar rose. Trade and other geopolitical uncertainties, including Brexit, are likely to keep volatility elevated, but we expect growth to stabilize and returns to improve.
Expectations recalibrated lower – Global growth peaked early last year and has been decelerating since April 2018 as growth in Europe and China fizzled amid political and trade uncertainty. Economic data in aggregate, as shown in the chart, has surprised to the downside, missing consensus expectations over the past 18 months. While growth remains below trend, there are signs of stabilization, and expectations are depressed enough that surprises have recently turned positive. We believe overly pessimistic expectations, also reflected in current valuations, provide a good base for improved returns
Challenges remain – Global manufacturing activity continues to struggle in the face of weaker global trade and shaken business confidence, with export-reliant economies such as Germany the most affected. Forward-looking surveys have shown signs of bottoming in emerging markets but are still consistent with a weak demand environment in developed markets. Positively, most major economies are experiencing better trends in their services sectors and tight labor markets, which reassures us the global economy is not likely headed into a recession. Headwinds remain, but we believe any de-escalation in trade tensions could be a catalyst for a rebound in international equities
Synchronized global easing – In response to weaker growth, major central banks around the world have either started or continued to ease monetary policy to stimulate economic growth. While such stimulus efforts typically lag in affecting the economy, we believe they can improve the growth outlook and provide support.
We recommend adding broad-based developed-market and emerging-market equity investments, if appropriate. Despite trade uncertainties and other challenges, attractive valuations, depressed expectations and accommodative central banks all support the case for international diversification.