Emerging market countries have earned a lot of attention from investors because of their 29.05% average annual return from 2003-2010 (MSCI Emerging Markets Index). Going forward, much of the assumption that emerging markets will continue to lead has to do with an expectation for stronger economic growth than in the U.S. or other developed market countries.
The theory goes that government balance sheets are in much better shape with less stimulus needed after the great recession. The emerging economies should also be aided by generally younger populations that don’t present demographic problems for government entitlement programs. And emerging middle class consumers with increasing income are expected to support big economic gains.
But economic strength — demonstrated by strong growth in Gross Domestic Product (GDP) — hasn’t historically translated into better investment market returns. Take a look at this chart from Financial Planning magazine using research from Dimensional Fund Advisors (DFA).
It may be counterintuitive, but even shrinking economies can maintain market gains. It’s important to remember that future expectations are priced into the cost of investments. In many cases, results don’t turn out as well as expected and prices decline upon reality. On the flip side, when expectations are low (often due to economic struggle), it’s easier for surprises to occur, creating better returns than expected.
While we think it’s important to include a healthy weight to international stocks and bonds in your overall investment mix, it’s definitely not the time to give up on the U.S. and its sluggish economy.
~ Brooks, Hughes & Jones — Partners in Wealth Management — Tacoma, WA