In my last post I looked at the impressive outperformance of international stocks this year:
With all the AI excitement it’s hard to believe foreign stocks are beating the pants off American stocks in 2025 when you consider the sector exposure discepancies:
When you include communication services (which includes Google, Facebook and Netflix) and the tech stocks in consumer discretionary (which includes Amazon and Tesla), technology stocks make up something like 40% of the U.S. stock market.
That number is much lower in overseas markets.
So why are international stocks crushing U.S. stocks so badly this year?
Obviously, the trade war has had an impact. Foreign investors poured money into U.S. stocks hand over fist in recent years, but some of those flows have reversed this year.
Those foreign investors have also received a tailwind in the form of a strong dollar.
This is what the dollar looks like versus a basket of foreign currencies since the end of the Great Recession through the tailend of 2024:
It’s been a steady move higher with the occasional countertrend reversal.
If you’re an overseas investor who has owned U.S. stocks you’ve received a double whammy of outperformance in terms of stock prices but also a strong dollar. A rising dollar (thus falling foreign currencies) has given foreign investors a currency boost to boot.
It’s been a win-win.
This year is a much different story. Look at the dollar over the past five months:
It’s dropped like a rock in the first half of this year.
That’s bad for foreign investors in U.S. stocks but a wonderful development for U.S. based investors who own international stocks. A weak dollar means stronger foreign currencies which aids in the returns of your foreign stock holdings.
Now, it’s our turn to benefit from the double whammy. From the perspective of U.S. investors, a weak dollar is supercharging the performance of foreign stocks.
This is one of the unsung benefits of international diversification. You also get currency diversification. Sometimes it helps. Sometimes it hurts. It’s more or less a wash over the long-term but it can provide diversification benefits at times in both positive and negative directions.
Plenty of people are worried about the dollar’s status as THE global reserve currency. I don’t necessarily share those concerns. What’s the alternative? Who is going to step up to dethrone the dollar? I don’t see it just yet.
But what if I’m wrong? Or it just weakens for a considerable period of time?
Sure, you could own gold or Bitcoin. I would imagine those assets would potentially do well in that scenario.
But so would international stocks and companies based outside our borders. International stocks are a wonderful hedge against the U.S. dollar weakening.
Again, I don’t necessarily agree with the idea that the dollar is in trouble. But I can’t be 100% positive in that stance. I could be wrong!
It’s also possible the dollar has been so strong for the past cycle that it was due for a reversal.
Sometimes currency diversification goes against you.
This year it’s helping a lot.
Further Reading:
The U.S. Dollar vs. Your Portfolio
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