For capital markets, August was all about America. US stocks were up, the US dollar was up, and just about everything international was down. The divergence was driven by superior domestic earnings growth, upward US GDP revisions, escalating trade conflicts and sector composition differences. Currency meltdowns in Argentina and Turkey along with trade war rhetoric with China spurred selling across emerging markets, which fared worst.
Market conditions have created an environment of increased temptation for investors to make the classic mistake of chasing whatever is hot. For the year, returns have been isolated to US stocks and concentrated within a narrow group. Apple, Amazon, Netflix, Microsoft and Google alone represent about 40% of gains in the S&P 500 this year. In August, Apple and Amazon alone added over $300 billion in valuation, an unprecedented move. New investment flows are being largely defaulted into a narrow group of stocks, a pattern that we view as common in the later stages of a large, theme-driven sector or style cycle.
Asset classes, regions, styles and sectors are cyclical. Disciplined investors who remain diversified and rebalance have better prospects over full market cycles than buy and hold approaches and, more importantly, avoid the risk of carnage that comes from an inability to resist adding to positions after they have already spiked. We seek a diversified portfolio throughout market cycles, but it becomes especially important in the later phases when gains become more concentrated among fewer assets. From a valuation perspective, international and value stocks are increasingly attractive on a relative basis. We expect rewards from owning them in the years to come. It is easy to buy what has been hot and hard to own what is not, but history has proven again and again that what feels most comfortable doesn’t often end up being most profitable.