Global bright spots developing

But prolonged uncertainty could leave risk assets vulnerable

The U.S. equity pullback has put a dent in U.S. outperformance over the rest of the world. We stay overweight U.S. stocks and see opportunities across global stocks. Europe’s fiscal boost may benefit some sectors. In Asia, corporate reforms have lifted Japanese stocks, while some Latin American countries tap into mega forces. Stronger currencies may boost the appeal of emerging local currency debt. Yet we think prolonged U.S. policy uncertainty could dim some of these bright spots.

The weight of non-U.S. equities in global equity indexes has been on the rise since the end of January (see the chart below). What’s driving that?

In the near term, policy uncertainty has shaken investor conviction in U.S. growth and equity strength. That’s pulled the S&P 500 down more than 3%. The selloff has been exacerbated by investors rapidly pulling out of popular trades – like the tech-heavy momentum equity style factor and cyclical trades that were betting on a boost from growth from potential U.S. deregulation and tax cuts.

Meanwhile, country-specific developments are boosting the appeal of global stocks, such as Germany’s big fiscal spending, Japan’s corporate reforms and Mexico’s role in rewiring supply chains. We think U.S. stocks can ultimately keep leading as the artificial intelligence (AI) theme broadens. Yet prolonged uncertainty poses a risk to both U.S. and global risk assets.

Germany’s defense and infrastructure spending plans were approved faster and with a greater scope than expected last week, not long after the federal election in February. Europe’s fiscal boost could lift revenues at aerospace and defense companies.

Profit margins for the financial sector, our year-long preference, look set to grow as policy rates are likely stay above pre-pandemic levels. Capital spending on electrification, energy efficiency, and data centers could fuel growth for industrials.

We’re selective as it will take time to see fiscal spending filter into the economy given the constraints in quickly boosting defense and infrastructure investment, on top of the limited fiscal room in most of Europe. European equity valuations still look attractive even as the discount versus U.S. stocks has narrowed from the 40% extremes seen last year, LSEG data show.

Mega forces at play

In Asia, structural shifts are spurring divides even within markets – reinforcing the need to be selective. A flood of apparently more efficient Chinese AI models has driven the Hang Seng index of mainland shares, full of big China tech companies, up 20% this year. That contrasts with the onshore benchmark CSI 300, roughly flat this year, showing how the AI theme in China has been centered in tech as it initially was in the U.S. Japan’s ongoing corporate reforms and mild inflation have driven long-lagging corporate return on equity, or profitability, to four-decade highs, LSEG data show – keeping us overweight stocks.

Latin America offers other bright spots. Mexico’s stocks have jumped nearly 8% year to date as the impact of U.S. tariffs has been less severe than expected. The Bank of Mexico’s cautious rate cuts have also helped stabilize the peso, up 4% against the U.S. dollar this year. While the impact of U.S. policy remains uncertain, Mexico is increasingly an intermediate trading partner between competing economic and geopolitical blocs. Chile’s equities have jumped 12% this year, and its currency is up 8% against the dollar – given resilient economic growth and expected private investment in minerals key to the energy transition.

More broadly, stronger emerging market (EM) currencies – if sustained – could brighten the appeal of EM debt issued in local currencies. We eye any temporary weakness due to trade uncertainty as an opportunity to upgrade the asset class to neutral.

Our bottom line

Country-level shifts and events are creating bright spots in global stocks, so we get selective. We stay overweight U.S. stocks on a six- to 12-month tactical horizon. Yet prolonged uncertainty could hurt both U.S. and global risk assets.

Jean Boivin is Managing Director, Head of the BlackRock Investment Institute at BlackRock Inc.

Wei Li is Global Chief Investment Strategist, Blackrock Investment Institute at BlackRock Inc.

Axel Christensen, Chief Investment Strategist for Latin America — BlackRock Investment Institute, and Laurent Develay Head of Emerging Markets Local Debt — BlackRock, contributed to this article.

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