Morningstar Indexes: Global equity market integration challenges investment assumptions

Lines between ‘domestic’ and ‘foreign’ allocations are increasingly blurred. Just 22% of revenues from the UK equity market are sourced from within the UK, as of the most recent corporate reporting, down from 29% in 2019.

The UK is hardly an outlier. According to Morningstar Indexes’ latest geographic revenues research, the majority of equity markets, including the US, Japan, Canada, Australia and most of Western Europe, have become more global in their revenue orientation since 2019.

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This runs counter to the narrative that the pandemic and geopolitical tensions have reversed globalisation.

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When geographic revenue data for more than 8,000 companies is aggregated to the national equity market level, interconnections appear most pronounced in developed markets.

The UK and many Western European equity markets earn more than two thirds of their revenue from outside national borders.

Companies like AstraZeneca, Shell, and Diageo are among the many multinationals in the Morningstar UK Index driving its outward orientation.  

Within Europe, equity markets in Belgium, Denmark, France, Germany, Ireland, the Netherlands, and Switzerland all source more estimated revenue from the US than domestically.

The likes of Anheuser-Busch InBev, Novo Nordisk, LVMH, Siemens, CRH, ASML, and Nestle have all become more global in recent years.    

Elsewhere, the Morningstar US Market Index has gone from 66% domestic in 2019 to 61% today.

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This is thanks in large part to technology-oriented companies like Meta Platforms, which tend to be global players. Japan has fallen to just 53% domestic revenue sources today, from 60% in 2019, with technology and healthcare concerns like Daiichi Sankyo leading the way.

Meanwhile, banks, telecoms, and utilities are generally more dependent on domestic revenue, which helps explain the inward orientation of most emerging markets.

India and Brazil have recently become less global, as financial services players HDFC, ICICI, Itau, and Bradesco have grown in stature within their own markets.

At 90% domestic, China’s revenue orientation runs contrary to its reputation as the ‘world’s factory.’ Morningstar China Index constituents Alibaba, Meituan, Tencent, and JD.com source the lion’s share of their revenues locally.

Two outliers among emerging markets are South Korea and Taiwan, which source the majority of their revenues internationally.

Both are tech heavy. South Korea’s international revenues are largely driven by Samsung Electronics, a global leader in smartphones, semiconductors, TVs, and more.

The Morningstar Taiwan Index is dominated by Taiwan Semiconductor, the world’s largest contract chip manufacturer.

Globalising revenues parallel rising correlations

Globalised revenue sources, especially among developed markets, parallel rising correlations across equity markets.

In recent years, UK and European equities especially have increasingly moved in tandem with their US counterparts. To understand why, consider the example of biopharma businesses.

Whether based in the US, Switzerland, or the UK, they likely sell into the same markets and are exposed to similar forces.

Does this mean global equity investing no longer confers diversification benefits? Not necessarily.

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For one thing, emerging markets equities have been less correlated to developed markets, which makes sense given their domestic revenue orientation. A bank in Indonesia and a bank in Canada may have little in common.

Additionally, markets moving in the same direction does not mean the magnitude of those movements are the same.

Despite their tight correlations, US equities have significantly outperformed European equities for more than a decade. History shows market leadership, as well as currency leadership, is cyclical in nature.

Investors who believe they have sufficient global exposure through a domestic equity allocation ignore a vast opportunity set.

There are unique companies, industries, and growth drivers that are only accessible through a global portfolio.

Somewhat counterintuitively, neglecting international stocks may mean an investor lacks exposure to leading players in their home market.

Though national equity indices are frequently cited as barometers of economic health, many are not all that national in nature. Globalising revenue sources complicate attempts to quantify ‘foreign’ and ‘domestic’ portfolio allocations. They also suggest heavy home country bias is misplaced.

Dan Lefkovitz is a strategist at Morningstar Indexes