Savvy investors learn an early lesson: Diversify to avoid taking on too much risk. Concentrating your wealth in limited areas of the market can leave you vulnerable to events that impact those areas, but leave others unscathed.
A portfolio that provides zero exposure to almost half of developed world equity markets is the opposite of diversified. But many investors’ portfolios might be doing just that if their investment firm only focuses on US companies and ignores the 40%+ of international developed-world equity markets.1 Such investors lack exposure to foreign markets whose stocks often trade leadership with US stocks, which can help reduce overall portfolio volatility.
At Fisher Investments, we set ourselves apart by approaching asset management from a global perspective. We invest globally to help hedge against domestic downturns, expose portfolios to more opportunities, diversify and, over time, reduce volatility.
We believe someone who fails to take a global asset management approach with their portfolio can end up with risks similar to those of an investor who fails to diversify their portfolio domestically. Consider, for instance, an investor who puts most of his or her money into a few domestic sectors such as health care, consumer staples or utilities. If the US market weakened, that investor might do relatively well through exposure to traditionally “defensive” sectors, but may miss out if the market rebounded and boosted more “cyclical” sectors such as information technology and financials.
Many investors understand this intuitively, but fail to extend that logic when it comes to exposure to overseas markets. US investment firms often reinforce this misunderstanding by telling clients that through investments in US multinationals—companies that generate large amounts of revenue from overseas—they have all the global exposure they need. This is a common fallacy—multinationals tend to perform like their home country rather than provide the same kind of global diversification effect owning non-US stocks can have. This is in part because a multinational corporation is generally subject to factors impacting stock prices in its home country—regulatory changes, currency fluctuations, monetary policy and access to credit.
Just as certain market sectors sometimes take a leadership role, so can certain geographies. The US can see periods of strength or weakness in different years.
Consider the following list: Canada, Denmark, Israel, Finland and Belgium. What do these very different countries have in common? Each claimed the top spot in annual equity returns among the 23-nation MSCI World Index between 2012 and 2016.2 As you may notice, the US doesn’t appear in that list. In fact, over the last 20 years, the US only appeared 6 times in the list of top-5 performing developed stock markets.3 Investors who didn’t own at least some foreign stocks in those years might well have missed a chance for better returns.
Exhibit 1: Global Leadership Shifts
Source: FactSet, as of 1/12/2018. The above returns reflect the Total Returns of the top 5 performers of the 23 developed countries that comprise the MSCI World Index, from 12/31/1997 - 12/31/2017. All returns are presented in USD. All returns are net of international withholding taxes, except for US returns, which are gross as international withholding taxes would not apply, and Israel’s returns prior to 2001, which are gross due to data availability.
Another advantage of a geographically diverse portfolio is to provide a blend that reduces volatility and leaves an investor less exposed to sharp ups and downs. With less volatility, investors may not only sleep better at night, but also be less likely to execute spur-of-the-moment, emotion-driven decisions that could lead to reduced returns.
We believe geographic diversification is central to risk management and vital to longer-term investment success. We understand that countries’ stock markets don’t move in lockstep and that opportunities might change depending on market conditions and economic developments in the US and abroad. That means diversifying across countries as well as across sectors.
However, while we believe geographic diversification is good overall for most investors, just like any other kind of investing, it comes with risks.
For instance, foreign political systems and regulations may operate very differently from the ones here in the US, so it is important to understand these distinctions and variations before investing in foreign stocks.
Other risk factors to consider include currencies and taxes. Foreign exchange rates vary from market to market and can sometimes experience periods of price volatility, which can affect stock market performance. Foreign tax rates, too, can ebb and flow as economic and political winds blow across nations.
Fisher Investments has managed global investments for institutional and private investors for decades. Contact us for a portfolio evaluation and learn more about how we can provide a global asset management solution tailored to your needs.
1 Source: FactSet, as of 12/31/2017.
2 Source: FactSet, as of 12/31/2016.