In this article, we’ll question the narrative that you must go overweight US stocks relative to international equities. The sentiment has shifted dramatically as investors have gone from expecting mediocre returns from US stocks along with worrying about the end of the cycle, to now expecting new record highs. To be clear, even though investors weren’t necessarily expecting a crash because the economy and earnings were strong, they were saying most of the gains for the cycle were in, which is even worse.

One year of a flat market followed by a bear market is worse than an immediate bear because it means lower long term returns. Now records are expected to continue being made because the crowd is subject to recency bias as it’s easy to claim stocks will continue what they have done because it makes those who say this look like they rode the previous wave. Plus, those who have rode the wave have a larger voice because they are confident and the media promotes who was most recently correct. The CNN Fear and Greed index is at 77 out 100 which is extreme greed; this signals intermediate term returns will probably be weak.

Sector Growth

The table below breaks down where the rally has come from this year. 

Source: The Earnings Scout

The tech sector is leading the charge as it is up 22.06% from its lows of the year. Consumer discretionary its also at a record as it is up 17.26% since its closing low. The sector is led by Amazon which had the second highest Q3 estimate revisions in the S&P 500. It’s remarkable to see the 2nd largest company in America, which is followed by numerous analysts, have its 3Q estimates increase 81.36%. However, we are not in a tech bubble like the 1990s since the internet companies are backing up the growth with record earnings.

Technically Amazon is consumer discretionary, but it’s still an internet company because most of its profits come from Amazon Web Services. Even Apple had a 16.77% increase in 3Q estimates. It’s very easy to see why stocks have rallied, but it’s difficult to see where they are going. To be clear, the fact that this rally has been justified by great earnings means the ensuing underperformance shouldn’t be that bad unless the economy sharply declines, which we don’t see happening based on the current data and leading indicators.