The conventional saying, “When the US sneezes, the rest of the world catches a cold,” suggests that given the US’s sheer size and global economic linkages, a US slowdown or equity market pullback could have severe spillovers globally.

So far this year, the S&P 500 index declined 3.8% while the MSCI Asia Pacific (APAC) ex Japan index remained resilient, returning 5.5% as fading US exceptionalism revived interest in non-US markets. Although a sharp US recession or bear market is not our base case, investors may question whether Asian equities can continue to outperform in that scenario, or if risk-off sentiment would trigger a larger drawdown in Asia compared to the US.

While spillovers are unavoidable, there are reasons to believe that this time round, if the US sneezes, Asia could see a smaller drawdown given current valuations and other economic factors. In other words, Asia has a mask on this time.

Did Asia catch a cold in past episodes?

The rise of globalisation since the early 2000s has led to increasingly integrated trade and financial linkages globally. During that time, the correlation between the S&P 500 and MSCI APAC ex Japan has averaged around 0.7. However, as seen in Exhibit 1, the correlation has not been stable, with periods of weakening during downturns, such as the aftermath of the dotcom bubble, the 2008 Global Financial Crisis (GFC) and the Covid pandemic. The most recent five-year correlation has also fallen to 0.41.

Asia’s performance in US bear markets

If we focus on periods of over 20% drawdown in the S&P 500 (typically interpreted as bear markets), the MSCI APAC ex Japan indeed experienced negative returns each time. However, in five out of seven instances, APAC outperformed the US (Exhibit 2). The notable exception is the Global Financial Crisis, but we do not expect a crisis of similar severity to happen this time if US slips into a recession. During that episode, the APAC valuation discount to the US was just 4%, the narrowest compared to other bear markets. 

Other episodes of APAC outperformance have coincided with larger APAC valuation discounts, which are more similar to the current level of roughly a 35% discount to the US. APAC’s current forward price-to-earnings (P/E) ratio of 13.5 is also close to the 15-year average of 12.9; in contrast the forward P/E for the US is 20.3, still materially higher than the average of 16.7, despite the year-to-date pullback. Although APAC valuations could remain under pressure in the near term until further policy clarity, the risk of a significant de-rating from this level is arguably limited.

Asia’s recovery after US bear markets

The 12-month performance following the end of the US bear market indicates a stronger rebound in APAC markets compared to the US (right side of Exhibit 2), except during the extraordinary artificial intelligence (AI) rally in the US in 2023. While timing the inflexion points in markets is difficult, patient investors who stay invested in APAC markets are often rewarded well following a US market recovery.

Asia has a mask on this time

Historical relationships and current valuations serve as a guide, however, idiosyncratic factors to suggest Asia could be more shielded from a US downturn:

  • Monetary easing: With inflation now at or below target in most Asian economies, central banks have more room to cut interest rates, especially as US dollar strength becomes less of a concern. Meanwhile, in the US, inflationary risks from tariffs could constrain the pace of monetary easing.
  • Fiscal easing: Markets such as Japan and Korea have swiftly unveiled stimulus packages to ease tariff impacts, and further supportive measures are expected from China. In the US, President Trump is seeking USD 163 billion in spending cuts for FY2026 in his latest discretionary budget blueprint.
  • Reallocation of capital: As US exceptionalism fades and investors diversify away from the US, capital may be reallocated or repatriated back to APAC markets.
  • The US dollar: A steadily weaker USD has historically supported APAC equities through increased capital flows and lower cost of USD debt. A US downturn could trigger safe haven demand, putting upward pressure on the USD. However, we think the rush to the USD could be less pronounced this time, given the risk event is occurring within the US and the expectation is for a growth slowdown or a mild recession, rather than a severe crisis.

Investment implications

Based on a combination of historical experience, APAC’s attractive relative valuations and the ability for domestic policy to partially offset external storms, APAC could remain relatively resilient if the US experiences a significant downturn. The subsequent recovery can potentially reward patient investors, making the case to stay invested while positioning defensively.

Near-term market volatility and an economic slowdown in Asia are inevitable if tariff risks remain. However, in the long run, tariffs could accelerate existing trends, such as increasing intra-regional trade, supply chain diversification across Asia, and a policy focus on strengthening domestic demand. Beyond trade, structural themes in APAC, such as digitalisation and AI, could see increasing tailwinds as investors look to diversify their technology exposure outside the US.

Looking more closely at the investment universe, China (28.71%) and India (18.65%) make up nearly 50% of the MSCI APAC ex-Japan index. However, both markets have exports to the US accounting for less than 3% of their gross domestic product and have large and growing domestic markets along with idiosyncratic policies. As the weights of these markets grow in the index, the correlation between the US and APAC markets may gradually weaken.

APAC exposure remains an important diversifier as investors seek to rebalance portfolios, while capturing long-term structural tailwinds and taking comfort in more reasonable valuations.