The past year saw exceptional returns for U.S. large cap stocks, while other asset classes lagged. This performance is attributed to U.S. economic strength and the AI trade, but risks such as high government spending, persistent inflation, and a declining Leading Economic Index raise concerns for the future.
The past year brought once again exceptional returns to U.S. large cap stocks while most bond classes and global stocks had a lackluster year. With an average post WWII annual return of +10.1%, theposted back-to-back years of outsized performance, up +23.3% in 2024 after rising +24.2% in 2023. By comparison, the U.S. aggregate bond index was up +1.3% and the MSCI All-Country ex-U.S. only gained +2.2%. The dual narrative of U.S.
So while another big year for the S&P 500 is course possible, the historical odds of this outcome are relatively low.Since the short Covid recession, followed by the strong reopening trade , the economy has grown around the long-term trend, just above 2.0% over the past three years. The inflation battle has essentially been won, although the Fed has not gotten PCE inflation back to 2% and the threat of inflationary tariffs under Trump looms in 2025.
The track record of a yield curve inversion proceeding recessions is very strong, as shown in the chart above. We won’t join the “this time is different” crowd. We highlight in the chart the risk for markets -- the un-inversion of the yield curve. Given how deep the inversion was this cycle, we are just now seeing the 10/2 spread un-invert.
In this section we’ll look at a couple more metrics that leave us cautious on U.S. large caps. Then we’ll present a couple illustrations of the relative valuations that we find attractive abroad. Another way of looking at the relative unattractiveness of U.S. equities is via the spread between bond yields and earnings yields of the S&P 500. Recall that the earnings yield is nominal earnings divided by nominal price, hence a real number . Therefore, we compare earnings yield to the real bond yields in the chart below.
Our next chart updates our MSCI All-Country World Index Ex-U.S. relative to the S&P 500 relative index. We denote with arrows the prior two watershed moments in the markets. The Tech Bubble ended nearly a decade of U.S. stock outperformance versus international stocks. The secular trend of outperformance in international stocks ended with the Financial Crisis. As readers can see, U.S. stocks have enjoyed an unprecedented stretch of now almost 15-years of outperformance.
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