International Equities Monthly
- The dollar may retest its 2022 highs in 2025. While we initially believed the rally was over, a GOP sweep introduced near-term factors such as deregulation, lower taxes, and tariffs that may bolster the dollar.
- Although Trump has expressed a preference for a weaker U.S. dollar, many of his proposed policies may counter that goal. Longer-term factors, such as fair value metrics and a widening budget deficit, support a weaker dollar. However, in the short term, relative interest rates and tariffs that favor the dollar will likely dominate.
- Looking back at the first Trump term, the dollar rose nearly 15% after tariffs were introduced in 2018. While tariffs weren’t the sole factor, they were important. This campaign’s tariff proposals raise greater concerns as they are far more aggressive than previous measures.
- We also expect dollar strength against emerging market currencies. In the last tariff war with China, the yuan dropped about 10%. Current policy proposals suggest heightened pressure on China, and broader risks to other emerging markets given the potential for across-the-board tariffs.
- Tariff threats are not the only factor driving the dollar; rising longer-term U.S. interest rates have also contributed. Most developed countries and many emerging countries' interest rates tend to follow Treasury yields. These higher rates, if sustained, are likely to put downward pressure on international economic growth prospects.
- Our cautious stance on international currencies reflects uncertainties surrounding policy implementation and monetary responses. Much will depend on how closely the Trump administration adheres to its policy proposals.
- We remain slightly underweight developed international markets due to currency and growth risks compared to the U.S.
- Europe’s economy continues to struggle with sluggish growth, which may be further weakened by expected tariff policies. Additionally, many European nations are under pressure to curb fiscal spending which could further hinder growth. However, the ECB’s December rate cut, its fourth, signaled a more dovish outlook through meaningful changes in language. Bloomberg Economics projects EU inflation to drop below 2% in the spring of 2025, possibly prompting further rate cuts that could become economically stimulative. While near-term conditions are unappealing, additional currency weakness and stimulative monetary policy could enhance the competitiveness of European industries later in 2025.
- Japan saw strong equity performance in 2024 in local currency terms, but over half of those gains were lost when converted to dollars. While earnings drove local currency gains in 2024, earnings growth estimates for 2025 indicate a significant slowdown. The negative correlation between currency movements and earnings complicates unhedged investments for U.S. investors.
- With few catalysts for outperformance, we maintain a slightly underweight position. However, current valuations reflect many of our concerns. The MSCI EAFE index trades at just 14x 2025 EPS estimates, compared to 22x for the S&P 500.
- We shifted to a slight underweight in EM following the U.S. election. Tariff risks and slower Fed rate cuts create headwinds, particularly for China. A more hawkish Fed could deter foreign direct investment inflows, while Trump’s broader tariff proposals put EM beyond China at risk.
- Insight on India. India’s economy is showing signs of slowing including very weak 3Q earnings and a large 3Q GDP miss making it the third consecutive quarter of slower growth. Why, and will it continue to slow?
- The primary factor has been tighter monetary policy. The Reserve Bank of India (RBI) has kept rates unchanged for two years and imposed restrictions on banks to crack down on unsecured consumer loans and credit. Fiscal spending has also been weak, as election delays caused the government to underspend its budget.
- Additional factors include a severe monsoon season which can disrupt economic activity, and reduced investment spending by Indian companies, partly due to competition from cheap Chinese imports that act as a disincentive to expand capacity locally.
- India’s GDP is expected to grow 6.4% for the fiscal year ending March 31, 2025, a significant decline from the prior year's 8.2% growth rate. Expectations for fiscal 2026 indicate slight improvement, with GDP growth forecasted at 6.5%.
- Indian stocks have corrected about 10% in local currency terms (nearly 13% in dollars), though they remain highly valued relative to other EM countries. While the economic slowdown is disappointing, growth above 6% is far from concerning. Additionally, many of the factors that drove the slowdown appear temporary. The monsoon season is over. Elections are over, and a new spending budget will be announced on February 1. A more moderate RBI governor has been appointed, and it is believed that rates will start to fall this year. The RBI’s next rate decision is scheduled for February 7.
- Despite current challenges, India remains a key EM growth driver, supported by favorable demographics, a highly skilled and English-speaking workforce, and generally business-friendly government policies
Equity Indexes Characteristics
The Indexes mentioned are unmanaged statistical composites of stock market or bond market performance. Investing in an index is not possible.
For Index Definitions see: TouchstoneInvestments.com/insights/investment-terms-and-index-definitions
Source: Bloomberg. Percent ranks are based on 30 years of monthly data as of the end of February; EPS growth estimates based on consensus bottom-up analyst estimates.
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