On further research, this appears to be Microsoft's attempt to do something like a Compose key (https://en.wikipedia.org/wiki/Compose_key#Common_compose_com...) which I had forgotten about. In turn this is sort of emulating a "dead key" on mechanical typewriters (https://en.wikipedia.org/wiki/Dead_key), although I can't tell if German typewriters actually had a dead key for the umlaut or if they actually had additional keys for ä, ö, ü like modern German keyboards do.
German typewriters generally had dedicated keys for the umlauts.
Windows however does offer a "English (international with dead keys)" keyboard layout that turns :, `, ^, etc into dead keys. Word offering the same at another level of abstraction sounds like a typical Microsoft thing
If it's the English international keyboard variant that I'm familiar with on either Windows or Linux, it's not : that is turned into a dead key but "
(Itś pretty annoying to write with if youŕe typing english, I can recommend toggling the keyboard layout (Alt+Shift in Windows by default) whenever you switch languages)