U.S.-based stocks play an outsized role in the average American’s investment portfolio. Kyle Tetting explains why as well as the ins and the outs of what’s called home country bias. Kyle spoke with Joel Dresang in a Money Talk Video. A transcript of their discussion follows.

Joel Dresang: Kyle, I want to talk about the geographical diversification within investment portfolios. So, if you look at the value of all the stocks and bonds in the world, the U.S. has about 36% of that market, and still, that’s a lot smaller than the U.S. portion of most people’s portfolios.

Kyle Tetting: Joel, the average U.S. investor has 75% of their portfolio in U.S. stock mutual funds and ETFs, meaning just 25% outside the U.S. Our own portfolio is somewhere between 10% and 20% outside the U.S. – depending on circumstances and the individual client’s needs.

So, while the U.S. isn’t a majority player in terms of the world markets, certainly U.S. investors continue to have that home country bias, favoring U.S. stocks at a much greater rate than what it would otherwise suggest.

Joel:  Home country bias. Explain that a little more.

Learn more
International Investing, from the Securities and Exchange Commission
How to Use International Stocks in Your Portfolios, by Morningstar

Kyle:  Home country bias is this idea that investors really are focused in their own country when they invest their money. It’s not specific to the U.S. Certainly, you look at Australia, the United Kingdom, and certainly those investors also favor their own stocks. But what ultimately we’re getting at is the fact that it’s easy for investors in the U.S. to understand U.S. companies. It’s more difficult to understand companies from other places.

There are things like language barriers – not just in the actual language they speak, but also in the way they talk about their companies – that can make it difficult to invest. There can be regulatory barriers to investing in other countries. And especially I think there can be some mismatches in accounting principles that make it difficult to value companies from other countries.

I think the other thing that’s really important to point out is that the risks that U.S. investors face tend to be specific to the U.S. And it is US companies, which can also help to overcome some of those risks.

Joel: You’re talking about things like inflation.

Kyle:  Inflation really is the big one. You talk about the erosion of purchasing power of investments, and it’s inflation that really will hurt investors in the long run.

And what’s really unique about that home country bias is that it’s U.S. companies, which are really best positioned to overcome that risk. The idea that as inflation rises, companies can raise their prices, which ultimately makes its way to the bottom line. You get higher earnings because you’ve raised those prices. What you really see is that, long term, it’s inflation that can drive stock prices higher.

Joel:  So, as an investor, why do I even want to invest abroad?

Kyle:  There’s great opportunity for diversification outside of the U.S. The U.S. is a very mature economy. We have some demographic issues that aren’t present in other areas of the world. You look at something like the emerging markets, for example, which have incredible demographic growth, incredible opportunity for economic growth. And there are some investment opportunities as a result that just aren’t present here in the U.S. The same can be said of Japan and Europe, where maybe the opportunity isn’t demographic or economic specific, but there are opportunities that are different than what’s here in the U.S.

Joel:  Rule of thumb, 10% to 20% of an investment portfolio should be invested abroad. How do I know that about my portfolio?

Kyle:  There’s tools out there that can tell you how you’re allocated. We use one called The Morningstar Snapshot, which gives you a picture of how you’re allocated across U.S. and non-U.S. stocks.

Investors need to remember that the point of diversification isn’t simply just to participate in different things, it’s that o

Kyle Tetting is director of research at Landaas & Company.
Joel Dresang is vice president-communications at Landaas & Company
Money Talk Video by Peter May and Jason Scuglik

Money Talk Video by Jason Scuglik
(initially posted Feb. 27, 2017)