Overseas Opportunity

We're outright bullish on stocks for 2007. But when it comes to portfolio allocation, it's not enough to just like stocks over bonds, cash and other alternatives. You've got to make some distinctions and decide where the best places to buy stocks are.

Foreign stocks have beaten US stocks since the current bull market's inception, and we expect that trend to continue. This is a counterintuitive for most investors here in the US who assume that stock investing necessarily involves buying US companies. We've written before on the benefits of global diversification (See our past commentary, "Go Global").

When it comes to making the proper decisions on a country and sector basis, it's all a matter of relativity. We're not bearish on the US; we're just less bullish on it relative to other regions. We expect US stocks to do well this year…just not as well as Foreign stocks. Here are some key reasons we believe foreign stocks should again outperform the US:

• Relative valuations the least attractive of major regions: The UK, Continental Europe and Japan all have higher earnings yield spreads than the US (see our past commentary, "Flip it to See Stocks' Value").
• Inverted yield curve: While it's true that globalization allows many corporations to seek and make loans across borders, mitigating the effects of any yield curve on its own, an inverted yield curve is still a minor negative for the US.
• Political uncertainty as new Congress takes over: We're confident no major legislation will pass over the next few years, but we've also noted rising protectionist sentiment and discussions about rising taxes since the new Congress has been installed. Political uncertainty and risk aversion can be a very bad thing for stocks.
• Unfavorable sector and style exposure: In a surging global economy, we tend to favor sectors that are very economically sensitive like Materials, Energy, and Industrials. The US has a large exposure to Technology and Healthcare stocks—both of which we aren't as bullish on at the moment. We also believe small caps have further to go (see yesterday's commentary, "How Big is Big? Part II"). But the US has a heavy weight in large growth stocks.