Capital outflows from U.S. stocks hit the highest in a year. Where are investors going?

Investors are abandoning US stocks in favor of foreign assets. In May, they withdrew $24.7 billion from the U.S. market - the largest outflow for the year. Capital is leaving the U.S. amid growing concerns about fiscal policy, budget deficit and the risk of recession due to duties. What assets are investors moving the money withdrawn from the US into?

Exchange-traded funds (ETFs) and mutual funds traded in the U.S. saw outflows of $24.7 billion in May, according to LSEG data cited by Reuters. This is the largest outflow from U.S. assets in a year, the agency notes.

In turn, European funds attracted $21 billion in May, increasing inflows since the beginning of the year to $82.5 billion - the highest level in four years, the agency noted. And data on 292 emerging market equity ETFs showed inflows of $3.6 billion last month. As a result, total investment in these funds this year reached $11.1 billion.

Since the beginning of the year, the MSCI United States index, which tracks shares of large- and mid-capitalization companies on the U.S. stock market, has grown by only 2.7%. Over that period, the benchmark MSCI Europe index added about 20%, while the MSCI Asia Pacific composite stock index rose 10%. Meanwhile, the forecast price-to-earnings (P/E) ratio for the next 12 months for the MSCI US index is 20.4, compared to 13.5 for MSCI Europe and 14.2 for MSCI Asia Pacific, suggesting that the US is overvalued relative to other regions.

Dollar weakness and a sell-off in U.S. Treasuries have undermined the appeal of U.S. assets as a safe haven, causing capital to rush to markets with strengthening currencies, analysts cited by Reuters said. Since April 2, when the U.S. announced a sharp increase in import duties, the dollar has lost about 9% of its value against a basket of six other major currencies. The selloff in U.S. government bonds that followed about a week after the duty hike led to a 0.5% rise in yields in just five days. So far, yields on treasuries have remained high at around 4.45%, up from 4.16% on the eve of the duties announcement. 

Investor concerns were also heightened by Donald Trump's «Big Beautiful Bill,» which, according to the Congressional Budget Office, could add $2.4 trillion to the budget deficit over the next decade, wrote Quartz.

Lower interest rates and optimism over Germany's €1 trillion stimulus plan have helped European markets outperform U.S. markets this year, Reuters writes. Last week, the European Central Bank cut interest rates for the eighth time in a year in a bid to support the economy while warning of growing trade risks with the U.S.

The shift in investment from the U.S. to Europe was initially driven by more attractive valuations for European stocks, Michael Field, chief European market strategist at Morningstar, told Reuters. Now, he said, it is increasingly fueled by a shift in investor sentiment.

«As investors are concerned about the US administration's actions and a potential slowdown in stock markets, this could signal the start of a medium-term trend,» says Field.

As Reuters notes, emerging market equity funds have also attracted cash flows due to improving fundamentals. Latin America, meanwhile, is seen as a safe bet as trade and military conflicts elsewhere have investors looking for more stable regions. Asian economies are increasingly reliant on domestic consumption and less on exporting goods abroad. 

«While Italy, France and the U.K. face rising debt burdens, many Asian economies are carrying lighter fiscal burdens, keeping bond yields stable and investor confidence intact,» Manisha Raychaudhuri, founder and CEO of Emmer Capital Partners Ltd, told Reuters.