International stocks have rebounded in 2017 after several years of trailing U.S. stocks.
Part of the reason for international outperformance is that economies around the world are improving. But a large amount of the boosted returns are actually due to the dollar weakening versus international currencies (see chart). When the dollar weakens, foreign stocks (which are typically held in foreign currencies) become more valuable for U.S. investors who are calculating their returns in dollars.
In prior years, the strength in the dollar detracted from the return of international stocks. As the U.S. dollar strengthened in 2014, 2015 and 2016, holding international stocks hurt performance. In 2014, for instance, the strength in the dollar meant the returns of international stocks where about 10% lower than they would have otherwise been without the currency effect.
That dynamic has flipped in 2017, as the dollar has weakened and become less valuable versus almost all major currencies.
The dip in the dollar has added nearly 10% of extra return for international stocks (15% for emerging market stocks). While we believe international stocks are priced more inexpensively than U.S. stocks based on earnings and sales, the currency appreciation has been another positive reason to hold overseas stocks.
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