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Investing away from home

 

Global Finance

By Kyle Tetting

At a recent investment conference in Chicago, I struck up a discussion with a financial advisor from Australia about the challenges facing investors today. One of his concerns in particular struck me. While the Australian investors he works with have embraced the importance of asset allocation and the role of balance, he said, few are eager to invest more than a small amount outside of Australia. Most are investing upwards of 80% of their stock portfolio in Australian stocks, he said, while the fixed-income side of their portfolio was even more focused in Australia.

I know that home country bias exists around the world, but I couldn’t help running through the numbers:

  • Australia’s GDP accounts for less than 2% of global GDP.
  • The Australian Securities Exchange accounts for a similar sliver of the global stock market.

Going strictly by the numbers, a truly balanced global investor wouldn’t consider allocating much more than a few percent to Australian exposure.

U.S. investors have a similar bias. The average U.S. investor holds about 70% of their portfolio within the U.S. – despite the fact that the U.S. is just one-third of the global stock and bond market and just a quarter of global GDP. While the U.S. has many great companies, opportunity exists around the world.

Of course, it is appropriate for investors to have some home country bias. Many risks, such as a country’s inflation rate, are specific to each country. For U.S. investors shopping largely in U.S. stores, a healthy allocation to U.S. stocks allows you to better navigate this home country risk because stocks are one of the best ways to overcome inflation.

Home country bias is understandable when it comes to corporate governance, too. When corporate executives use a different language, for instance, it adds to the complexity of understanding an investment. Different accounting practices can further complicate the matter.

Even wildly different views on the retention of earnings can shape investors’ opinions of a company in another country. Historically, companies in much of the rest of the world have paid higher dividend yields than U.S. companies – suggesting drastically different norms for how a company should behave and where and when investors should expect returns.

Finally – and this is especially true of investing in less developed countries – there can be significant geopolitical risks for investors looking outside their own country. One-third of the companies in the MSCI Emerging Market Index are state-run, for example. With a government as the primary owner, incentives for corporate executives to run a strong business – and the very definition of a strong business – may be very different than for a company controlled exclusively by a broader audience.

Add these concerns together, along with fear of the unknown, and it is no wonder that most investors prefer a close-to-home approach. But they face risks concentrating too heavily in one area.

Investing in Australia, for example, entails a high concentration in materials mining. The risks are there for virtually any country with large exposures to any one economic sector. Investors with a home country bias might experience heavy exposures in industrial stocks (Japan), technology (U.S.), health care (Switzerland) or defensive stocks (Belgium). Just as a downturn in technology would hurt the U.S. economy, it also would stress the investment portfolio of U.S.-focused investors.

Of course, the best prospects for growth aren’t limited to any one area. In the future, the fastest population growth and growth of the middle class – key drivers of economic growth – are likely to come from parts of Africa and India. However, companies around the world are already positioning to benefit from those trends. The materials stocks in Australia will be a necessary part of the continued economic growth of the emerging world, just as the U.S.-based technology companies find new users for their products.

In light of escalating discussions of trade wars, uncertainty for investors has risen. But, even as much of the world becomes more defensive with trade policy, the investment landscape has never been more global. As a result, it would be a mistake for investors to remain too focused on any one country – even their own. While there is no one “right allocation,” the global nature of opportunities today suggests there’s room for greater diversity.

Kyle Tetting is director of research and an investment advisor at Landaas & Company.

Learn more
Over there: Investing in a global economy, a Money Talk Video with Kyle Tetting
Global exposure via large U.S. companies, Money Talk Video with Marc Amateis
International investing includes risks, a Money Talk Video with Brian Kilb
Shopping for Foreign Stocks? Here Are a Few Things to Keep in Mind, by the Financial Industry Regulatory Authority
International Investing, from the Securities and Exchange Commission
(initially posted July 5, 2018)

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