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Price Point - In Brief

International Equity

Durable Earnings Growth Is a Key for Long-Term Performance

Richard N. Clattenburg, International Growth Equity Strategy Manager

Executive Summary

  • We have become somewhat less optimistic about near-term global economicgrowth than we were in mid-2017, which has caused us to take a more cautiousinvestment stance.
  • While international equity valuations appear reasonable in the health care,information technology, and financial services sectors, the quality and durability ofearnings should be the primary determinant for further gains.
  • Overall, we expect that international stock markets will continue to generate decentearnings growth, but we believe that selectivity is crucial for generating solidperformance as not all regions, countries, and sectors will benefit evenly.

IN A SLOW-GROWTH ENVIRONMENT, SELECTIVITY IS PARAMOUNT

We expect global economic growth will continue to slow from 2017’s rapid pace, which leads us to a less sanguine near-term outlook for equities. International stock valuations are modestly more attractive than those in the U.S., but our assessment of non-U.S. equity markets remains somewhat guarded. The broad market continues to display many of the momentum characteristics we would expect to see during a prolonged bull market. For example, some fundamentally strong stocks in the consumer staples and health care sectors have been unfairly punished, in our view, while momentum darlings, including several information technology and techrelated industrials, have performed well. We believe that individual stock selections will have more bearing on generating outperformance than sector allocation decisions.

FUNDAMENTALS AND GROWTH POTENTIAL MAKE CERTAIN SECTORS ATTRACTIVE

Our research efforts have uncovered a number of health care, information technology, and financial stocks that we believe offer compelling risk/reward characteristics. During periods of market weakness, we look to add to companies with solid business operations that may have experienced short-term disruptions. Our health care holdings generally remain fundamentally sound and offer solid growth prospects. We have identified several attractively valued pharmaceutical companies with innovative therapies—products that produce material medical benefits—and other health care operators that provide cost-effective solutions and are durable growers with efficient operations. We added some of the technology stocks that powered the market’s gains over the past year when they pulled back in the first half of 2018. We look to seize opportunities when stock valuations do not accurately reflect the growth that we think the companies can achieve. We believe our technology holdings are reasonably priced given their growth prospects.

Among financials, we favor emerging markets banks that are well positioned to benefit from improving local conditions, as well as European banks that have exposure to emerging Europe but are also improving their domestic operations. On the other hand, many energy stocks appear richly valued, given our moderately bearish outlook on supply and demand metrics for oil over the next several years. We are mindful that several large emerging markets, particularly those with the largest dependence on the energy market for growth, including oil producer Russia and oil importer Turkey, could face renewed headwinds.

DISPERSION OF RETURNS IS LIKELY

Overall, we think the quality and durability of earnings will ultimately determine whether valuations are reasonable or stretched. Indeed, we expect to see increased dispersion of returns across regions, countries, and sectors, which underscores the importance of our global efforts to identify solid businesses with durable cash flows that are trading below their intrinsic value. In the U.S., corporate earnings will likely receive a one-time jolt from lower tax rates, but we expect the impact to earnings will dissipate in a few quarters.

In Japan, corporate earnings remain subdued given that market’s dependence on exports and its sensitivity to global economic growth. With both factors moving against Japan at the moment, corporate earnings in the near term may disappoint investors. We are somewhat more constructive about the prospects for European equities, as earnings expectations have come down. The recent weakness in the euro should also provide a tailwind to companies with material sales outside the eurozone. We are finding high-quality companies with attractive growth prospects, although it has become more difficult to find companies with significant dislocations between valuations and growth expectations. However, we believe in, and intend to stick with, our long-term, time-tested investment process—owning reasonably priced growth stocks that can consistently generate above-average earnings and cash flow growth.


Important Information
This material is being furnished for general informational purposes only. The material does not constitute or undertake to give advice of any nature, including fiduciary investment advice, and prospective investors are recommended to seek independent legal, financial and tax advice before making any investment decision. T. Rowe Price group of companies including T. Rowe Price Associates, Inc. and/or its affiliates receive revenue from T. Rowe Price investment products and services. Past performance is not a reliable indicator of future performance. The value of an investment and any income from it can go down as well as up.
Investors may get back less than the amount invested.

The material does not constitute a distribution, an offer, an invitation, a personal or general recommendation or solicitation to sell or buy any securities in any jurisdiction or to conduct any particular investment activity. The material has not been reviewed by any regulatory authority in any jurisdiction.

Information and opinions presented have been obtained or derived from sources believed to be reliable and current; however, we cannot guarantee the sources’ accuracy or completeness. There is no guarantee that any forecasts made will come to pass. The views contained herein are as of the date written and are subject to change without notice; these views may differ from those of other T. Rowe Price group companies and/or associates. Under no circumstances should the material, in whole or in part, be copied or redistributed without consent from T. Rowe Price.

The material is not intended for use by persons in jurisdictions which prohibit or restrict the distribution of the material and in certain countries the material is provided upon specific request.

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USA—Issued in the USA by T. Rowe Price Associates, Inc., 100 East Pratt Street, Baltimore, MD, 21202, which is regulated by the U.S. Securities and Exchange Commission. For Institutional Investors only.

T. ROWE PRICE, INVEST WITH CONFIDENCE, and the bighorn sheep design are, collectively and/or apart, trademarks of T. Rowe Price Group, Inc. © 2018 T. Rowe Price. All rights reserved.

201808-562297

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