Companies that produce goods or provide services want the largest possible markets for their outputs. But a structural expansion in supply chains, which boosted gross trade in the 1990s and early 2000s, started to slow even before the GFC.

A turn toward protectionism—government policies that favor domestic industries—over the last decade in the face of rising inequality in developed economies is likely to similarly tap the brakes on global trade.

We note that other aspects of globalization, including international capital flows, knowledge sharing, and geopolitics, carry potentially significant economic, societal, and environmental consequences. In our latest research, we focus on just one aspect of globalization that addresses a specific concern of investors: the trade of goods and services.

The concern is that slowing global trade growth may reduce corporate earnings and profit growth and, by extension, weigh on equity prices. After all, a globalization wave that began in the 1990s coincided with a sixfold increase in Standard & Poor’s 500 Index earnings per share and more than a doubling of profit margins, contributing to almost 90% of the index’s price return over most of three decades.¹

But we contest the view that globalization has been the central factor in the expansion of these return drivers. Our research demonstrates an inconclusive or weak relationship between earnings growth and changes in trade dependency. And it shows that industries with the greatest increase in profit margins since 1990—finance and insurance, and office and computer machinery are examples—have experienced only modest changes in trade dependency. 

Trade tensions that precipitated sharp bouts of market volatility just a few years ago underscore the importance that investors ascribe to global commerce with few impediments. No doubt, geopolitical risks are ever present and worthy of attention. But our new research quantifies risks related specifically to a future of slowing global trade growth, and we believe that these risks to investors aren’t as large as they’re sometimes portrayed. 

Rather, we emphasize conclusions shared by our new research and our December 2020 research A Tale of Two Decades for U.S. and Non-U.S. Equity: that corporate earnings growth hasn’t been a major contributor to U.S. equity outperformance in the past and that we shouldn’t expect it to have a meaningful impact on future outperformance or underperformance. Valuations, or the price investors pay for earnings, represent the most important signal for future asset returns. (A recent blog by Vanguard’s global chief economist, Joe Davis, further discusses what high U.S. equity valuations suggest for returns in the decade ahead.)