Recently, Bank of America’s latest fund manager survey revealed something striking: global investors are rapidly exiting their U.S. equity holdings at the fastest pace on record. A dramatic 40-percentage point decline in U.S. stock allocations, from a net 17% overweight to a 23% underweight has unfolded, marking the largest reduction since March 2020 which was the height of the Covid pandemic. This shift prompts an important question: Are we witnessing the decline of American equity dominance in global portfolios, or is this just a short-term correction?

In this article, we’ll explore the factors driving investors away from U.S. stocks, where the capital is flowing instead, and what this shift signals about the future of global investing.

What’s Driving Investors Out of U.S. Equities?

1. Stagflation Fears: A Dangerous Combination

Global fund managers are increasingly concerned about stagflation, which is an economic condition characterised by slow growth, rising unemployment, and persistent inflation. According to Bloomberg’s recent economic outlook, nearly 60% of global investors predicted a stagflationary environment over the next 12 months.

Investors doubt whether the Federal Reserve can effectively manage inflation without tipping the U.S. economy into recession. The Fed’s recent struggle to control inflation through aggressive interest rate hikes has heightened concerns, causing risk-averse behaviour among investors and driving them away from equities towards safer assets.

2. Concerns Over U.S. Trade and Fiscal Policy

Uncertainty surrounding U.S. trade policies, particularly under President Donald Trump’s renewed protectionist stance, is also pushing investors away. The introduction of tariffs on major trading partners like China, Canada, Mexico, and the EU has significantly disrupted global supply chains, causing unease among multinational corporations and their investors.

According to the Financial Times, these tariffs have notably impacted the automotive, technology, and agriculture sectors, reducing corporate profitability and dampening investor sentiment. This uncertainty, combined with a lack of clarity on long-term U.S. fiscal policy, has resulted in investors pulling back from American equities in search of more stable markets.

3. End of the Era of U.S. Stock Outperformance?

Perhaps most critically, many investors believe the golden age of U.S. stock market dominance is coming to an end. U.S. equities, especially the tech-heavy Nasdaq, have significantly outperformed other markets over the past decade. However, investors now perceive U.S. stocks, particularly major tech firms like Apple, Microsoft, Amazon, Google, Meta, Tesla, and Nvidia who are known as the “Magnificent Seven” as increasingly overvalued and vulnerable to corrections.

Bloomberg analysts suggest that a decade of exceptional U.S. returns has made valuations less attractive compared to undervalued equities in Europe and emerging markets. This sentiment shift is prompting a strategic realignment of global portfolios.

Where Is the Money Going Instead?

As capital moves away from U.S. equities, European stocks are emerging as clear winners. Bank of America’s recent report notes allocations to Eurozone equities surged by 27 percentage points in March 2024, reaching the highest levels since July 2021.

European markets currently offer attractive valuations, improved corporate earnings expectations, and less aggressive monetary policy compared to the U.S. The European Central Bank’s approach has been relatively cautious, easing investor fears over sudden policy-induced recessions.

Additionally and probably worth also mentioning is the fact that global investors are raising their cash holdings significantly, with average cash balances increased from 3.5% to 4.1%, indicating a cautious and defensive market sentiment in this time. This rise in liquidity positions shows that investors are preparing for potential volatility ahead.

Meanwhile, allocations to U.S. technology stocks have dropped sharply to a two-year low. Even the widely celebrated “Magnificent Seven” (Apple, Microsoft, Amazon, Google, Meta, Tesla and Nvidia) are not immune, indicating investors are reconsidering previous optimism about these market-leading firms.

Is This a Structural Shift or Just a Temporary Correction?

The scale and speed of investor withdrawal from U.S. stocks suggest more than short-term risk aversion; it could indicate a deeper structural shift. For years, U.S. equities have attracted massive inflows thanks to their consistent outperformance, innovation leadership, and perceived stability. However, the current scenario of persistent inflation, policy uncertainty, and shifting global sentiment has prompted investors to diversify their portfolios and reduce U.S. dependence.

All that said, declaring the definitive end of U.S. stock market dominance may still be a bit premature. The U.S. economy still remains strong, as it is supported by robust consumer spending, a resilient job market and market liquidity that is still unparalleled. So, we believe that the Federal Reserve’s future policy decisions and clarity regarding trade policies will heavily influence long-term investor confidence.

According to the World Economic Forum’s latest report, U.S. capital markets are still regarded as the most innovative and liquid globally, which we believes suggests that investor appetite could quickly return if inflation moderates and policy uncertainty diminishes.

Our Final Judgment

We believe that the current exodus from U.S. equities serves more as a wake-up call rather than an outright shift in global financial power and a definitive end to American financial leadership. While markets are becoming more multipolar, the U.S. stock market’s strong fundamentals mean that it is unlikely to dethrone anytime soon. However, if inflation remains stubbornly high and if policy uncertainty persists, we might indeed witness the start of a long-term shift away from U.S. equities, fundamentally reshaping global investing dynamics.