2025 International Equities Outperformance: Drivers & Capital Allocation Implications

Based on my analysis of the 2025 market data and recent developments, I can provide a comprehensive assessment of the factors driving international equities’ outperformance and what this signals for global capital allocation.

The data confirms significant international outperformance in 2025. The Vanguard FTSE All-World ex-US ETF (VEU) has delivered approximately 27.6% YTD returns, substantially outperforming US equities as measured by SPDR S&P 500 ETF (SPY) at 14.8% returns [0]. This represents nearly 13 percentage points of outperformance, marking a meaningful reversal from the prolonged period of US dominance that extended for over a decade.

The primary catalyst appears to be valuation compression in international markets relative to US equities. After years of underperformance, international markets traded at substantial discounts to US counterparts, creating compelling value opportunities. SPY currently trades at a P/E ratio of 27.08x, while VEU trades at just 17.49x [0], representing a significant valuation gap that attracted value-oriented capital flows.

European markets have emerged as particularly strong performers, with European banking stocks gaining 67% in 2025 [1]. The region has benefited from:

• Stabilizing interest rate environment
• Robust earnings recovery
• Increased M&A activity
• Relative political stability compared to emerging markets

International markets, particularly smaller global markets, have been “immune to a lot of the political and trade and tariff noise that’s been out there” [1]. This stability advantage became increasingly valuable as US markets grappled with policy uncertainty and regulatory challenges.

The technology-heavy composition of US markets, particularly the NASDAQ, has created concentration risk. International markets offer greater sector diversity, with stronger representation in financials, industrials, and materials - sectors that have outperformed as global economic growth accelerated.

Asset managers are actively repositioning portfolios. According to recent surveys, institutional investors are increasing international allocations, with one strategist noting that investors “got forced into [international markets] based on the outperformance” and that “there’s scope for the region to outperform further” [1].

While developed international markets led the charge, emerging markets have also shown renewed strength. The recognition that many emerging market economies have decoupled from Chinese growth dynamics has attracted fresh capital.

International markets have demonstrated superior risk-adjusted returns in 2025, delivering higher returns with comparable or lower volatility than US counterparts [0]. This efficiency has attracted systematic and quantitative investment strategies.

1. Valuation Gap Persists:
   Despite the rally, European stocks “remain relatively cheap even after this year’s rally” [1], suggesting further upside potential.

2. Earnings Momentum:
   There’s been “a meaningful broadening of earnings momentum, both across market capitalizations and across regions, including Japan, Taiwan, and South Korea” [1], indicating fundamental strength.

3. Structural Shifts:
   Markets are steadily “rerouting capital toward the assets that look investable in a decarbonizing world” [2], with international markets offering better exposure to green economy transitions.

1. Currency Volatility:
   US dollar strength could erode international returns for dollar-based investors.

2. Geopolitical Risks:
   Regional conflicts and political instability in some international markets remain concerns.

3. Interest Rate Differentials:
   Global monetary policy divergence could create capital flow volatility.

• Strategic Rebalancing:
  The outperformance supports a reconsideration of traditional 60/40 US/international allocations
• Regional Specificity:
  Within international allocations, European developed markets appear particularly attractive
• Sector Opportunities:
  Financial services, industrials, and sustainable energy sectors offer compelling international exposure

• Currency Hedging:
  Consider hedged international exposure to mitigate currency risk
• Diversification Benefits:
  International equities continue to provide meaningful portfolio diversification
• Valuation Discipline:
  While momentum is strong, maintaining valuation discipline remains crucial

The 2025 international equity outperformance represents more than a temporary rotation - it signals a potential structural shift in global capital allocation. The convergence of valuation attractiveness, earnings momentum, and reduced US-specific risks has created a compelling case for sustained international market leadership.

However, this doesn’t necessarily signal the end of US market dominance, but rather a move toward a more balanced global allocation approach. The magnitude of outperformance suggests we may be entering a period of true global market competition, where capital flows more freely between regions based on relative value and growth prospects rather than historical preferences.

For investors, the key insight is that international markets can no longer be viewed as merely diversification tools but as potential primary drivers of portfolio returns in the coming years.

[0] Ginlix AI Financial Data API - Real-time market data and performance calculations
[1] Yahoo Finance - “Global markets outperform US in 2025: How to trade foreign stocks” (https://finance.yahoo.com/video/global-markets-outperform-us-2025-110059047.html)
[2] Forbes - “Markets Already Pricing Fossil Fuel Phaseout After COP30” (https://www.forbes.com/sites/we-dont-have-time/2025/12/14/financial-markets-are-already-pricing-the-fossil-fuel-phase-out/)