The value of U.S. small- and mid-sized companies soared during the five-year period that ended September 30. 2013. U.S. small- and mid-sized companies gained 70% in value in that period, outperforming the 40%-plus gain on shares of blue chip large-companies, and Eurozone stock markets barely rose during this period.
Will that happen again over the next five years? That seems highly unlikely. While no one can say for sure which stock investments over the coming five years will be best, we can be fairly certain that the next five years will be nothing like the past five years.
The accompanying chart shows five-year trailing returns on US small-, medium-, and large-cap stocks versus the stock markets in major foreign regions of the world for the five years that ended September 30, 2013. The US led the global economy out of the financial crisis and worldwide economic slowdown, and smaller companies flourished in the U.S. European stocks clearly lagged during the five year span. As 2013 came to end, however, a significant shift appeared to be under way.
The third quarter of 2013 was a good one for U.S. stocks as well as bourses in China and the Eurozone. No one knows for sure if the appreciation in Europe and China trend will continue. But we are starting to see evidence that the economic slowdown, which had threatened Europe since the 2008 financial crisis and China in the last year or two—is passing. The U.S.-led economic rebound since the financial crisis might be spreading to two of the largest economic regions in the world.
Keep in mind, foreign securities subject U.S., investors to additional risk, including exchange rate changes, political and economic upheaval, less liquidity, and less stringent accounting controls, standards, and disclosures. But foreign stocks don’t behave exactly the same as U.S. stocks, thus, providing diversification.
Moreover, the International Monetary Fund’s latest global economic forecast is for accelerating growth in every major region in the world. Europe’s economy was expected to turn from mild recession in 2013 to expansion in 2014.
Most economists believe the U.S. economy’s growth rate will rise in 2014, but expansion is also expected in China, Brazil, and India and Europe is likely to emerge from its recession. This would be an improvement in the foreign economic backdrop, which could benefit foreign stocks in 2014. While investing in European stocks over the past five years has hurt U.S. investors, this could change in the next year or two. The economic cycles across world regions translate into unpredictable but constant rotation in leadership, which is best managed by broadly diversifying your portfolio and rebalancing regularly.