Welcome to The Flip Side. I'm Brad Rogoff, Global Head of Research. And it's been a busy start to 2026. So left us with a lot of topics to choose from for this episode of The Flip Side, but we chose one that we thought everyone would be interested in. That's equity markets. So joining me today from our podcast studio in London is Emmanuel Cau, our Head of European Equity Strategy.

Welcome, Emmanuel.

Thank you and good to be here with you. Right. There is yes lot to discuss.

All right. Before I get into anything, if you want to hear about this and all the topics we discussed this year, do not forget to hit subscribe so you never miss an episode. I already said that we're going to talk about equity markets, but what are we going to talk about with respect to equity?

We're going to talk about equity allocations and the merits of international diversification. So international equities have started to outperform the US. And that raises a big question for investors, which is sort of a one off rotation or the start of a more durable trend. And Emmanuel I think the best way to do this is maybe to start with a quick recap as to why this conversation seems especially relevant right now.

So we look back at 2025, you know what really stood out to you in terms of equity allocation. And then maybe, you know, relative performance across the globe.

2025 was a remarkable year for global equities. MSCI World Index was up more than 20% for the third year in a row. But I think what's really stood out was how broad the move was.

This wasn't just 1 or 2 markets, but Europe emerging market, Japan and even the way I love UK markets all of perform as the U.S. and for the first time in years, the majority of global equity flows went outside the US. So it's not just us driving the show anymore, Brad.

Well that's interesting that it's not just us, but it's also not just Europe that's driving the show outside of the U.S, I think is sort of your point.

So you're saying you felt like it was a really a genuinely broad move when you think about non-U.S. equity markets?

Yes. There was a very broad flow dynamics and basically where the biggest, strongest equity flows into Europe and the rest of the world equities since basically 2010. And that's before you even factor as a weaker dollar, which has boosted return for US investors buying non-US equities.

Yeah. And from US investors perspective FX is actually doing some work to start 2026 as well.

That's right. And look so far, 2026 started pretty much like 2025. Finished with dollar coming down again and most international markets outperforming the US again. So I think the question many institutional investors are grappling with is whether this is just a cyclical bounce or the start of a structural shift away from US exceptionalism.

Look, so it may seem easy for me to take this view because I'm sitting in New York. I'm maybe it's stereotypical here, but I really do think that this was largely cyclical. What went on. And if we look back since the global financial crisis, we've only had two years where more than half of global markets outperformed the US.

That's a pretty long time period. So to me, 2025, it kind of looks more like that catch up. It had to happen at some point type thing. And there was this rebalancing effect. And the starting point certainly helped. We had the Trump election cycle run up in 2024. The US was, you know, we had gotten expensive. I would say, whereas Europe and broader rest of the world were priced for much deeper pessimism.

But starting valuation only explained part of it on say

Well, most international equity markets rerated in 2025. So outperformance was mainly driven by valuations. Well U.S returns was almost entirely driven. Actual earnings. So at the same time the dollar weakened partly because of tariff uncertainty, policy uncertainty in general and partly because the fed lacked fear. Leadership and markets sort of added a risk premium.

When you think about the US, to me, and so I know January felt like more of the same. But now we do have at least a proposed Fed chair in place. The markets seemed happy with that. Broader dollar depreciation is no longer a base case from here. And US equity valuations have come down from peaks, while Europe's trading at around 15 times earnings but without the same earnings momentum, the US has delivered.

Basically Brad you're seeing 2025 with just mean reversion.

That's exactly what I'm saying. And a cyclical reset after years of US dominance. So U.S accounts for more than two thirds of the global equity market cap. I mean at some point you're talking about something that's too big and too liquid for investors to really exit.

And with no real equivalent or alternative.

I mean, it's true that capital market activity and even shareholder culture to some extent is far more developed in us than any words.

And I'd also mentioned that retail is a key source for the bid. In the US, almost 70% of household financial assets are invested in equities. No other country has such a strong domestic shareholding base.

The US equity market is become the economy and the wealth effect is a key driver of consumer behavior right now. We talked about that in the last episode actually of The Flip Side. So I think the “Sell America” idea I just think is overblown. And even though US equities have lagged in the past year, look, the S&P still up more than 20%.

I think people are okay with that. What we're seeing is not investors abandoning the US. But but maybe trimming extreme concentration and rebuilding hedges elsewhere to an extent.

Okay, Brad. I think what you are seeing is true. But US exceptionalism is first and foremost due to tech. If you strip out the massive and stock for S&P 500, the index, was basically flat compared to Europe.

Over the past five years, an index return has been highly concentrated, as you know, which means the index is overly dependent on a few mega-cap stocks. Something more investors are getting uncomfortable with based on our recent interaction with clients. And again, this is what the recent price action is showing up again this year. We’re still having a tough start to the year.

So you're really pushing back more on how narrow things are in terms of returns but not the actual returns. And why am I taking that right?

Well, yes, I think rest of the world indices are far more diversified and maybe somewhat easier to invest in for active managers. I don't think anyone is finding this market easy, by the way, but I think for active manager position to a much more diverse market is somewhat easier to manage.

And I think the dominance of passive money in US flows is raising some concerns. We could do a separate Flip Side, another point on passive versus active. But that seems to be the issue you're really hitting there as opposed to a regional one?

True. But the passive effect amplifies another risk when one market is as concentrated as the US.

And what I as become less of a one-way trade, given all the concerns about bubble or overspending or deleveraging or capex monetization, as investors are increasingly looking beyond tech. And finally, global growth is accelerating broad, which also benefits the more value and security international markets. So investors are willing to look beyond tech and broaden out the allocation,

Now look, personally, I'm not bearish at all.

I'm big tech and actually quite the opposite. You know, I know you and Venu Krishna, US Chief Equity Strategist, spend a lot of time talking about this stuff. But we don't really see AI as a bubble. Still when you kind of look at earnings, that that should continue to support further upside. Even evaluations have come down. And there's certainly some Capex questions.

But the earnings seem to be there. And after lagging recently, Big Tech looks relatively inexpensive versus the broader S&P despite its favorable margin, leverage and growth setups. So we're also seeing margin expansion. You look at those names. Consensus expects tech margins to rise from 27% to probably about 29% in the fourth quarter. I understand the concerns around the capex as I alluded to, but Big Tech's capex as a share of sales, it's expected to moderate after reaching all time highs in the recent quarters.

Well, that the dot-com comparison everyone makes, right.

And I understand why, but it's far from perfect, right. So even if you look at current levels, hyperscaler capex is around 25% of sales, well below the 40% we saw for major telcos during the dot-com bubble. And leverage is also a fraction of what it was back then. Moreover, if you look at the hyperscalers, many of them are generating enough cash.

Through operating cash flows to invest in AI with one hand, you know, even potentially return some cash to shareholders with the other. And that's a stark contrast to the dot-com era tech infrastructure builders, where that cash just wasn't there.

But you see, Brad. That's exactly my concern. If US equity market performance is so dependent on a handful of tech names, then investors aren't really buying U.S. economy.

So I'm basically buying a very narrow team. And that concentration is in itself is a structure risk. And, well, you don't have to be a bear on tech, by the way, to be a bull on international equities. I don't think Europe or rest of the world a performance last year and so far this year was only about what happened in the US, where genuine catalysts elsewhere.

All right. You got to walk me through this though because what I see. Right. And once again, I know I'm sitting in New York is a bunch of companies that are still not producing meaningful earnings growth. I mean, the last three years, you've essentially zero earnings growth in Europe, right?

Maybe you should come to London, Brad?

I’ll be there next week. We can continue our debate then.

Then, look, take Europe for example. But I think what changed wasn't just sentiment, it was the policy backdrop. Fiscal constraints ease defense spending is going up significantly, and suddenly earnings expectations stop deteriorating. That's enough to matter, I think, for locators. Now, on top of that, though, the GDP growth is between US and Europe too narrow.

And so far the data is moving in the right direction. And yes, valuation of PE multiples have risen globally, but Europe and relative valuation are still extremely low versus history 30-40% discount. And I think crucially European earnings are finally set up to recover this year. And as I said, we are starting to see revision trending up. So, on a gross and secular adjusted basis.

I think actually really cheap compared to the US.

I think you need that growth to justify that higher multiples. So we'll see if that comes in 2026. But when you look beyond Europe, what are the catalysts there?

There are many catalysts. If you go to Japan, the new government is running a pro-fiscal, reflation-oriented agenda. Emmanual I think that structurally is supportive for growth and equity better generally. And same thing for emerging markets. I mean, just one year ago, Brad, China was called uninvestable, and twelve months later China has reemerged as one of the better performing equity markets in the world, obviously with AI and tech, being a big driver of that, but China and emerging market equities are still trading on a big discount, 40% discount to the US for pretty much the same earnings growth.

We took about 15-20% EPS growth for the next two years across emerging markets. All right.

So we alluded to this earlier. But when you think about international equities, FX is something you have to think about. Right? And and and it's become a bigger risk. But the volatility we've seen recently. So when you look at the last few weeks, I mean how are you factoring in FX when you think about allocations?

Oh look it's a very fair point, Brad. And this is giving us a bit of a headache, in terms of cross asset volatility, which is really going through the roof. And FX is always a wildcard across international markets. Again, maybe most in Japan, but I think it goes both ways. It can boost returns for dollar-based investors.

And it also affects US earnings in some way. Given global revenue. And look finally, again, let's not ignore AI. I think the US is clearly a leader. But what drove US return last year was narrow mega-cap AI strength. We are starting to see more dispersion and Asian competitors, particularly in components and infrastructure are emerging as well. So AI is no longer a US centric team with hyperscalers emerging in China and adoption becoming the next hot team, which is a very much a global team and not just a US topic.

Okay, so let's say I even buy some of your argument as to why the rest of the world might be getting better, but I'm not sure I buy that asrelative value actually improving versus the US?

So backing the US to the end, Brad?

well, I hope I can do that this summer at the World Cup. I'm a little more skeptical about that.

But let's get back to the equity markets. And so here's my thesis, even if Europe grows in 2026, right? Which, as you said, do you think there's going to be a pickup or seeing some revisions? I think execution risks remain. And I feel like we're already seeing it in Germany a bit. Industrial policy and energy transition, pretty uneven, right?

Japan's interesting, but the bond market seems like it's eventually going to act as a constraint on fiscal expansion. And Japanese PE is already back to near their cyclical highs. And on AI Europe is definitely not leading. There's no equivalent to the USA ecosystem. Yes, I'll give you Asia has players. China is certainly ramping up but the U.S remains far ahead in both scale and depth, and AI is still the biggest contributor to projected U.S productivity growth and capital spending across multiple sectors.

That still is a core productivity story.

Yes. Plus, there's no economy with the same combination of energy security, military leadership, and an emerging critical minerals strategy like the U.S. I mean, these matter for long term competitiveness. And I think that means that U.S exceptionalism is still intact.

Look, I have held that before, Brad. And I don't disagree that the US still leads, but I can't ignore geopolitical dynamics anymore as increasing strong ‘America First’ policy tilt is starting to unsettle even close allies.

Not just governments, by the way, but also global investors. And this is accelerating the trend towards strategic autonomy. Countries want supply chain independence, and investors want portfolio independence.

So now you're making a little bit of a different pitch here. It sounds almost like you're saying it's about diversification as insurance more so than a pure relative value play.

Yeah.

And maybe investors forgot too much about diversification in the first place. And I think that's although now we are seeing commodities which have become one of the most sought-after asset classes, gold demand is rising as a hedge against currency debasement and geopolitical volatility. Base metals and rare earth demand is climbing because of AI data center construction and surging defense spending.

And this is well EM and the rest of the world are the biggest beneficiaries of what is changing and are seeing investor have to adapt their equity allocation.

All right I already said I feel strongly that the “Sell America” trade, you know, which is a big narrative out there that that's not happening. But it sounds like what you're talking about is more of a “Buy less America trade”.

Is it? Am I getting that right?

Yeah. And I think this is what the flows after doing us so far and maybe more investors are simply saying we're not abandoning the U.S, but we need the hedge. And that hedge increasingly looks like international equities. Europe, emerging markets, Japan or even commodity linked markets. And the US equity market share of GDP is about 240%.

It’s strongly the same size for the UK, but much smaller for China, most emerging markets and Germany. So it's a lot of catchup to happen in just part of the world.

All right. So we've talked about a bunch of macro risks for this trade, FX volatility, policy execution risk, especially in Europe, I think, earnings disappointments, if global growth underwhelms and geopolitical shocks.

What am I missing from that laundry list? What do you think?

I think the biggest risk for rest of the world equities actually comes from the US. And I know Brad. It sounds almost provocative after a lively discussion we just had. But look, if the US economy were to go in deep trouble like a recession, I think all economies around the globe will likely get hit as well.

And if the US equity market, may somewhat finally become a safe haven again, in a sense, it is hard to see a proper decoupling between the US and other markets, abroad. But who knows? You know, maybe it could happen. And last year. By the way, during the two episodes of Tech wobbles in January when DeepSeek was launched and in November, when investors were starting to worry about open AI and circular funding, international equities fell less than in the US.

So maybe the rest of the world Europe, high beta to the upside and becoming almost no beta to the downside now.

Well, I don't know if that's the risk. Then, I'm not sure how much diversification helps, but I do think you have a general point that is worth keeping in mind. And that's at the debate isn't necessarily us versus the rest of the world.

It's concentration versus diversification, potentially. And I still think US exceptionalism isn't broken, but maybe it's a bit narrower than it looks. For many investors, international equities aren't a replacement for the US. They're a hedge against how dominant it has actually become. Well, thanks Emmanuel for coming on and covering the entire globe of equities with me today.

To learn more clients of the investment bank can explore our equity view in depth with our latest reports, including our “European Equity Strategy Outlook for 2026” and “Buy/Sell American”. Don't forget to subscribe so you never miss an episode. See you again! On The Flip Side.