International Investments

The typical American stock investor owns a portfolio of stocks that is entirely US centric.  By investing in only one geographic region, investors are missing out on an important diversification element.  US investors that own a mix of large cap, mid cap, and small cap stocks spread amongst various industries often have a false sense of diversification.  Unfortunately, during a recession or depression in the United States, even a well-balanced US stock portfolio will provide little safety.  The financial crisis that took place from 2007-2009 showed just how correlated all US industries are.  Having international investments is an effective way to limit downside risks during the next downturn.

The past century has seen certain economies around the world ebb and flow at different times.  Currently, Europe is struggling with burdensome debt issues created by many years of excessive spending.  Other parts of the globe like Brazil and China are chugging along with near double digit annual GDP growth.  Many Middle East economies are hampered by wars and revolutions.  The US is in the middle of a slow moving recovery but could easily go the way of Greece, Ireland, Italy, and Portugal if it continues to run up its public debt.  The take away is that different regions will boom and bust at different times.  Investing internationally is a great way to mitigate the risks of a geographic turmoil.

Many argue that individual international investments are not required if you own large capitalization stocks.  It’s true that most of these companies are multi-national with large portions of their revenue coming in from oversees.  This helps somewhat with diversification however if forces investors to follow the herd.  Most Americans own shares in these mega companies through Index ETF & mutual fund ownership held in 401(k) and other retirement plans.  Fund managers are forced to buy or sell more of a stock not because the underlying company’s value changed but simply as a result of more money coming in or being taken out by investors.  This creates a bubble effect that’s increases the correlation of large cap stocks.  A better alternative is to own shares of individual stocks and indexes in foreign countries.

Some of the best international investments you can make come from the Vanguard line of ETF’s (exchange traded funds).   We especially like Vanguard’s ETF’s because of their high liquidity and very low expense ratios.  The Vanguard FTSE All World ex-US ETF is a great choice if you only want a single investment to balance a US based portfolio.  The symbol is VEU.  Its 2200+ stocks are index based which means it will match the performance its underlying benchmark.  All companies are located in developed and emerging markets outside of the USA.   This is the single best international investment you can make if diversification is your goal.

Another choice from Vanguard is its MSCI Emerging Markets ETF (symbol VWO).  This fund is similar to the VEU however it focuses on emerging markets so you won’t find many investments from countries with well-established economies.  It owns over 800 stocks and has a very low expense ratio considering all of the stock exchanges it must operate with.

An interesting international investment you can make if you don’t want to be part of a market cap weighted index is the PowerShares FTSI RAFI Developing Markets ex-US ETF.  It trades on the New York Stock Exchange (NYSE) under the symbol PXF.  What’s innovative about the PXF is that it uses a so called “smart weighted” index that does not go by market capitalization but rather more meaningful metrics like cash flow and book value.

The previous three choices all provide excellent diversification among a large number of stocks.  Individual investors should remember that it is possible to own shares of individual foreign companies without having to trade on foreign stock exchanges.  Many large international companies headquartered outside of the US sell American Depository Receipts (ADR) that trade on the NYSE.  They can be bought and sold just like a regular stock and provide a great way for stock pickers to customize their portfolio.  It’s important to note however that when researching ADR’s the financial reports are often given in the currency of the home country so be sure to do the required conversion to US dollars in order to compare with similar US stocks.