Portfolio perspectives

International equities: Past performance may not be indicative of future returns

Over most of the last 15 years, allocations to international equities have presented a significant pain point for advisors and their clients’ portfolios. There are plenty of backward-looking reasons for why U.S. equities have outperformed non-U.S. equities. Valuation and geopolitical arguments are being made for both “why U.S.” or “why non-U.S.” equities on a forward-looking basis. Vanguard discusses many of these issues in our 2025 market outlook.

U.S. investors are growing weary and becoming increasingly skeptical of the argument that low valuations alone justify investing in international equities. We often hear that international equities are cheap for a reason. Moreover, with current geopolitical tensions, tariffs, and the rise of AI, the reasons to potentially avoid international equities seem to be mounting. However, no one can predict future returns with certainty. It is this uncertainty, combined with the potential benefits of diversification, which form the strongest case for including international equities in an investment portfolio.

From a return perspective, the past 10 years have shown significant variability in the performance of developed-market countries, as shown in Figure 1. Despite the U.S. being the best-performing market overall, it was never the top performer in any single calendar year. The performance of individual countries has been unpredictable, with no clear pattern emerging. For instance, Israel, despite ongoing conflicts, was the best-performing market last year. 

When examining returns, the cyclicality of U.S. versus non-U.S. stocks becomes evident when all non-U.S. countries are considered collectively. Over shorter time periods, there is significant variability from one period to the next. Over longer time periods, there are larger and more prolonged swings in relative performance, as seen in Figure 2.

Additional potential benefits of a global allocation within an investor's portfolio include lower volatility and exposure to a different mix of industries, companies, and currencies compared to a U.S. equity-only portfolio. Vanguard's paper “Not all great stocks are found in the U.S. markets” addresses the different company exposures that international equities offer and can be shared with your clients.

Predicting the best-performing market remains challenging, as we've seen this year with U.S. equities down 2.7% and international equities up 9.2% YTD thru March 7, 2025. Even more dramatic is that 11 Western European countries are up more than 10%. While no one knows if this performance trend will continue, an international allocation would have captured this benefit for client’s portfolios.

Figure 3: Having an international equity allocation would have captured early 2025 outperformance

Source: Vanguard Investment Advisory Research Center calculations using data from FactSet, Inc., as of March 26, 2025.

Notes: Country and global total returns represent the 23 developed markets and the market-cap-weighted mix of those markets as defined by the MSCI World Index.

For advisors considering how to allocate their clients' portfolios, the exact allocation to U.S. and non-U.S. stocks is less important than having a reasonable allocation to both. However, it's important to note that most assets and sub-asset classes will experience significant periods of underperformance, which may require advisors to defend the rationale for these investments.

Next steps to consider: How to implement an international equity allocation?

When considering an allocation to international equities, there are a number of options:

• A broadly diversified index fund or ETF such as Vanguard Total International Stock ETF (VXUS).
• Exposure through a custom index fund or ETF focusing on:
  • The premium dividend yield of international stocks, such as the index used by Vanguard International High Dividend Yield ETF (VYMI), FTSE All-World ex-US High Dividend Yield Index.
  • Defensive properties of a dividend growth index, such as the index used by Vanguard International Dividend Appreciation ETF (VIGI), S&P Global Ex-U.S. Dividend Growers Index.
• For investors who prefer an active manager to target their international exposure, Vanguard partners with some of the most experienced investment managers in the world as subadvisors on our active funds. For instance, Wellington’s “all-weather” international core fund, VZICX, incorporates a multi-disciplinary approach that leverages the strengths of an extended investment team.

Looking to explore international equity options for your clients' portfolios? Connect with your Vanguard sales representative and request a conversation with one of our Portfolio Solutions specialists.

Inflation-hedging considerations for a multi-asset portfolio

For investors, it may seem like 2025 is off to an accelerated start, with developments daily about evolving geopolitical dynamics and trade policies. Vanguard economists are continuously monitoring the environment and updating our perspectives and their potential implications accordingly. In the end, uncertainty is nothing new when it comes to investing—as we have all experienced many times over the past several years, whether it be the COVID-19 crisis, unexpected inflation post-COVID, or other market events.

Through it all, one thing that’s held steady in our conversations is how financial advisors are positioning their portfolios for the inevitable uncertainties of investing. As of late, a trending topic in many of our discussions has been preparing for and hedging unexpected inflation shocks.

From our portfolio construction consultations, advisors generally address inflation within their portfolios in a variety of ways. Real Estate Investment Trusts (REITs), Treasury Inflation-Protected Securities (TIPS, both short- and long-dated), and cash are the most common vehicles we find advisors utilizing for dedicated inflation protection. To a lesser degree, advisors have employed non-traditional assets, such as broad-based commodities and precious metals, for their inflation-hedging merits. Ultimately, allocating towards a specific asset or sub-asset class based on its relationship with inflation is a function of position sizing, portfolio funding decisions, and risk/return trade-offs within a multi-asset investment allocation.

Similar to how one examines a stock or bond portfolio’s beta to the overall market, Vanguard research has shown that betas to unexpected inflation can be estimated to understand how stocks, bonds, or any other asset may respond to short-term fluctuations in unexpected inflation. Following this approach, Vanguard’s Investment Advisory Research Center assessed various asset classes and sub-asset classes, including those that are commonly used within advisor portfolios as inflation hedges (See Figure 4).

Here, our findings showed that there are trade-offs to safeguarding against short-term changes in unexpected inflation. For instance, while certain strategies, like commodities, maintain a high unexpected inflation beta, they are also highly volatile and produce wide-ranging returns relative to equities over short and long-term horizons. Conversely, other strategies, such as short-term TIPS, offer much less volatility and greater consistency against unexpected inflation, but potentially lower returns versus traditional fixed income over longer-term horizons. Thus, advisors looking for added resiliency against unexpected inflation in client portfolios must consider the potential trade-offs of an asset’s inflation coverage relative to its volatility when including it within a multi-asset portfolio.

Lastly, long-term investors may find solace in considering that, over the past five years, a traditional 60/40 stock/bond portfolio has returned 8.60% annualized, relative to headline inflation at 4.23% annualized over the same period (Source: Vanguard calculations using the Balanced Composite Index: 60% CRSP US Total Market Index representing stocks and 40% Bloomberg U.S. Aggregate Float Adjusted Index representing bonds; and YCharts, as of December 31, 2024), highlighting the potential inflation-hedging merits of a traditional balanced portfolio via real returns. For strategic allocators, diversification both across and within asset classes is key to weathering not only any potential volatility stemming from an unexpected uptick in inflation, but also any other volatility-inducing market event.

In weighing client needs with the trade-offs inherent to an inflation-hedging approach, consider these use cases and their accompanying products:

• Short-term TIPS: Vanguard Short-Term Inflation-Protected Securities ETF (VTIP)
• Broad TIPS: Vanguard Inflation-Protected Securities Fund Admiral Shares (VAIPX)
• Commodities: Vanguard Commodity Strategy Fund Admiral Shares (VCMDX)
• REITs: Vanguard Real Estate ETF (VNQ)