U.S. Stock Market Through the Eyes of Foreign Investors

The US stock market as represented by the S&P 500 (SPY) has underperformed major developed markets – Japan (EWJ), Europe (IEV) and MSCI EAFE (EFA) -- in recent years, as the three year chart below illustrates. [click to enlarge]

That is a well-known fact, but how did the S&P 500 do in the eyes of Euro-zone Europeans, British and Japanese investors, as seen through their wallets; that is, translated into their currencies?

The Currencies
First let’s look at the currencies themselves.

The Dollar/Yen exchange rate had ups and downs, but today it's about where it was 10 years ago. The Dollar/Euro exchange rate has had higher highs and lower lows than the Dollar/Yen, but today the Dollar doesn’t buy so many Euros. The Dollar/Pound exchange relationship has been somewhat more subdued, but today is approximately as expensive for Dollar based investors as it was 10 years ago.

The chart below shows those currency relationships by expressing each in terms of the relative purchasing power of the Dollar for each key foreign currency.

S&P 500 Through Japanese Eyes
Tje Japanese have seen gains in recent years from their US stock investments that are approximately equal in both nominal and currency translated terms.

The red line shows the nominal return of the S&P 500 relative to a time approximately 10 years ago, while the blue line shows that relative return multiplied by the purchasing power of the Dollar with respect to Yen.

While Japanese investors may lament that the S&P 500 has lagged other major markets, they at least had the benefit of what the S&P 500 did accomplish.

S&P 500 Through European Eyes
Euro-zone Europeans have seen gains in recent years from their US stock investments, but not so much as the nominal returns would suggest.

In this chart the blue line shows that relative return with respect to Euros (note that older periods of time use a “synthetic” Euro calculated based on the component individual country currencies – we don’t know how it was done, but the databases are standardized).

S&P 500 Through British Eyes
The British have suffered essentially the same currency devalued returns from the S&P 500 as Euro-zone investors.

In this chart, the blue line shows that relative return with respect to British Pound Sterling.

Implications
We should probably not expect strong investor flows from the Euro-zone or the UK until and unless the Dollar strengthens. Trans-ocean acquisitions may increase due to increased purchasing power by Sterling and Euro investors, but portfolio investment flows will probably decline. British and European stocks tend to have higher yields and have done better on a currency-adjusted basis.

If Sterling and Euro investors sense a reversal of currency trends, they may increase funds flows to US stocks, but probably on a delayed basis as they wait for confirmation of longer-term trends.

Japanese investors are likely to continue to see their US stock allocations as OK, due to historical currency adjusted returns resembling nominal US stock returns.

However, if the Japanese central bank raises interest rates and the US Federal Reserve does not, the Yen may appreciate relative to the Dollar and decrease the appeal of US stock portfolio investments.

Full Disclosure: Author owns EFA

Comments

[Sonia Mirza:]

Thanks for the comparison.
Just another spin on: "We should probably not expect strong investor flows from the Euro-zone or the UK until and unless the Dollar strengthens. "

I'd say there are some out there who would see current conditions as an opportunity to get into the market, given that (and I am not talking on a fundamentals basis) it is cheaper (relatively, ito currency) right now. Just another way to look at it...and while you do address it with purchasing power, I dont agree 100% with a decline in porfolio investment flows. Perhaps a long-term horizon, and expected returns would add weight to this spin.

Thanks for the article!

2007 May 09 06:39 PM

[QVM Group:]

I agree that there are "some" out the who would see opportunity, but in terms of cash flow amounts, my experience tells me that the bulk of the money follows trend changes and only a small amount of money anticipates trend changes.

2007 May 14 11:22 AM

[David Camp:]

How about US investor outflows? This article suggests that US equities suffer from low European inflow, but what about the accelerating rate of US investment fleeing this country for Europe? (As well as to Canada, Australia, emerging markets and the like.)

2007 Sep 07 04:12 PM

[seetumail:]

I completely agree with what is given in the post.The graph clearly shows the exact picture of the US markets
great effort
Eliza
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May 29 04:06 AM

[seetumail:]

I completely agree with the post.The graph exactly shows the current picture of the US markets
Great effort that's been put up
Eliza
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May 29 04:09 AM