We began the year expecting international equities to catch up to the U.S., given the extreme valuation discount to the U.S., expectation of a weaker dollar and the better earnings backdrop. While international equities are up a robust 7% so far in 2024, the gap with the U.S. remains significant. Additionally, with the pro-U.S. policies of the next administration, especially those that promote a stronger dollar (through higher rate differentials and tariff uncertainty), some headwinds are increasing for international stocks.

Despite coordinated stimulus leading to a 30% tactical rebound in Chinese equities in 3Q, China remains stuck in its cyclical storm. Policy will likely remain accommodative until economic momentum stabilizes, but policymakers do not seem intent on generating strong growth. Therefore, in 2025, investors may be disappointed by the scale of fiscal policy stimulus and hence overall economic growth. In the case of full implementation of President-elect Trump’s tariff campaign promises, Chinese policymakers may stimulate the economy more forcefully; however, this remains uncertain. As a result, investors may be unwilling to pay a higher multiple for Chinese stocks after the recent rally. Pockets of opportunities do exist, particularly among private companies prioritizing shareholder returns and belonging to innovative sectors linked to business technology (automation, software) or the renewable energy and electric vehicle supply chain.

Europe is also facing its own cyclical challenges. A shift in sentiment and earnings for European equities will depend largely on a rebound in China, a manufacturing upturn or stronger consumer spending - all challenging to overcome in 2025. Additional European Central Bank (ECB) easing should eventually provide some support, especially for businesses that rely more on bank lending, but confidence and consumer spending have been slow to improve. Additionally, the eurozone may be hit by tariffs next year, as the region struggles to provide a proactive unified response. However, sector-level discounts, combined with healthy buybacks and dividend yields, present compelling opportunities in select European companies.

Meanwhile, compelling structural stories are driving impressive returns in certain markets (Exhibit 1): Japan, India and Taiwan, up 7%, 13% and 33% respectively. Japan, for instance, is moving out of a long period of deflation, stagnant nominal growth and negative rates. In the year ahead, reflation should support consumer spending and domestic earnings more broadly. Japan’s corporate governance reforms, leading to record-high buyback announcements and more M&A activity, should continue supporting flows and returns as its valuation discount fades. However, yen volatility has increased due to “yen carry trade” unwinds and higher U.S. rate expectations, hurting sentiment and equity returns. Looking ahead, yen stability, which is crucial for internationally exposed companies and foreign investors, is expected to improve as Japanese interest rates normalize gradually and yen short positions close. There is risk of a more disruptive rise in U.S. 10-year yields driven by deficit and inflation concerns.

While China’s path ahead may be bumpy and involve trade conflicts with the U.S., opportunities in EM ex- China remain promising. India is expected to maintain strong earnings momentum due to falling rates and robust services export growth. Recently, foreign inflows have stalled due to high equity valuations, which have been bolstered by strong investments from domestic investors. This could eventually result in a market correction. However, there is likely a floor as the long- term investment case remains highly compelling. Furthermore, India stands out as one of the leading destinations for “friendshoring” in EM Asia, potentially boosting foreign direct investment and driving growth in the manufacturing sector.

Elsewhere in Asia, the tech cycle boom can continue to support Taiwanese companies, as key beneficiaries of the AI infrastructure build-out. Korean equities continue to face challenges but could eventually participate, as the cyclical tech cycle picks up and the impact of its “Value-Up” program becomes more apparent.

Lastly, Mexico is likely to experience continued volatility next year as the 2026 USMCA renegotiations draw near. The U.S. may intensify efforts to limit the passage of Chinese products through Mexico, particularly in the automotive sector, as well as use trade negotiations as a bargaining chip for Mexico’s help in managing immigration. It will be key to monitor whether the Mexican government adopts a pragmatic approach in handling these negotiations. In any case, in the longer run, its role in the “nearshoring” trend will remain critical due to its proximity with the U.S. Additionally, friendshoring can benefit Southeast Asian markets as well.

Looking ahead, international equities should benefit from multiple expansion and better earnings growth expectations (Exhibit 2). However, there are plenty of risks, including disappointing economic growth in China, higher U.S. 10-year yields, a strong dollar, tariffs and local currency volatility. In particular, the impact of tariffs on the already fragile global economy will hinge on the timing, scope and execution by the incoming U.S. administration. Increasing tariffs on China could speed up nearshoring activities, while a universal tariff could have significant repercussions for major U.S. trade partners with which it has trade deficits, including Mexico, Europe, Canada and Vietnam. Despite the risks, international equities offer investors the chance to diversify beyond expensive U.S. markets. Adopting an active approach is crucial for capturing attractive opportunities fueled by powerful long-term trends, while also skillfully maneuvering through the policy fog ahead.

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