A Beginner's Guide To Mutual Funds Abroad

International mutual funds are a great way to diversify your portfolio and tap into the earning potential of different markets. These funds invest in foreign companies, providing investors with exposure to global leaders and reducing portfolio risk by investing in markets that rarely move in tandem. However, investing in international mutual funds also comes with higher risk exposure due to currency fluctuations and varying economic, social, and political conditions in different countries.

Before investing in international mutual funds, it is important to understand the different types of funds available, such as global funds, regional funds, and country funds, as well as the advantages and disadvantages of each. Additionally, investors should carefully research and analyze their investment goals, as these funds require constant vigilance and expertise in international markets.

For investors looking to invest in international mutual funds, there are a few things to keep in mind. First, it is important to have a long-term investment horizon, as these funds are best suited for goals that are at least five years away. Second, the process of investing will depend on the country in which you reside and the regulations that govern mutual funds. For example, investors in the US can only buy funds registered with the Securities and Exchange Commission (SEC), while those in other countries may face restrictions on purchasing US-based mutual funds.

Overall, international mutual funds offer a great opportunity for diversification and accessing global markets, but it is important to carefully consider the risks and regulations involved before investing.

International funds for geographic diversification

International mutual funds are a great way to achieve geographic diversification. These funds invest in companies in foreign countries, and are also known as Foreign Mutual Funds or Overseas Funds. They allow investors to tap into the earning potential of international markets and reduce the risk of investing in just one country or region.

There are several types of international funds, including global funds, international funds, regional funds, country funds, and global sector funds. Global funds invest in securities worldwide, including the investor's home country, while international funds exclude the investor's home country. Regional funds focus on a specific geographical region, and country funds invest only in a single foreign country. Global sector funds, on the other hand, focus on companies belonging to a specific sector across different countries.

When investing in international funds, it's important to consider the risks, such as currency risk and the impact of macroeconomic factors like political stability and economic policies. Additionally, investors should be aware of the regulations and restrictions that may apply in different countries. For example, U.S. mutual funds typically require investors to have a U.S. address, and foreign investors may need to supply an IRS Form W-8BEN.

One example of an international fund is the MFS International Diversification Fund, which seeks capital appreciation by investing in other mutual funds advised by the adviser, known as underlying funds. This fund diversifies across market capitalization, style, and geography, including developed and emerging markets.

By investing in international mutual funds, investors can spread their investments across different regions, reducing the risk associated with concentrating their portfolio in a single country or market.

Global funds vs. international funds

Global funds and international funds are two types of mutual funds that provide investors with exposure to companies located outside their home country. While both types of funds offer diversification benefits, there are important differences between them that investors should understand before making investment decisions.

Global funds invest in securities all around the world, including the country in which the investor resides. They are designed for investors who want to diversify their investments across different countries and reduce country-specific risks. By including domestic and foreign investments, global funds allow investors to benefit from the performance of various markets worldwide. However, investors should be aware of the different regulations and protections in other countries, as some governments may intervene in their industries.

On the other hand, international funds invest in securities around the world, excluding the investor's home country. These funds are suitable for investors who want to diversify their portfolios by specifically targeting non-domestic markets. International funds can provide exposure to both developed and emerging markets, with varying levels of risk. It's important to note that "international" funds may focus on specific regions rather than investing in every country outside the investor's home country.

One key difference between global and international funds is the level of control and visibility they offer over the allocation of domestic and foreign stocks. International funds allow investors to separate their domestic and international investments, giving them greater control over their overall portfolio allocation. In contrast, global funds do not provide this separation, making it challenging for investors to know their exact exposure to domestic or foreign markets at any given time.

Another consideration is the approach to currency risk. Some funds may employ strategies to mitigate the impact of currency fluctuations, while others view currency movements as an integral part of portfolio performance. Investors should understand how their chosen fund manages currency risk, as it can significantly affect their returns.

When deciding between global and international funds, investors should also consider the potential for overlapping investments. If an investor already has domestic holdings, investing in a global fund may result in duplication. In such cases, an international fund might be a better option to access international markets while reducing the chance of overlap.

Currency fluctuations and taxation

To hedge against currency risk, investors can use currency forward contracts, which allow them to lock in a future exchange rate and protect themselves from adverse currency movements. However, hedging strategies do not eliminate all risks associated with exchange rate movements, and there is a possibility of missing out on gains if the currency appreciates in value.

When investing in mutual funds abroad, it is also important to consider the tax implications. Taxation laws vary across countries, and foreign investors may be subject to both the taxes of the country where the investment is made and their home country's taxes. In some cases, double taxation may occur. However, certain countries offer tax credits or deductions to offset the tax liability in such situations. For example, the United States offers a "foreign tax credit" that allows taxpayers to use foreign taxes paid to offset their liability to the US government.

Additionally, different types of investments may be taxed differently. For instance, in the US, current distributions from a Passive Foreign Investment Company (PFIC) are generally treated as ordinary income, which is typically a higher rate than long-term capital gains for most taxpayers. Understanding the specific tax laws and regulations of the country where you plan to invest is crucial to making informed investment decisions.

Mutual fund restrictions for US citizens abroad

US citizens living abroad face a unique set of challenges when it comes to investing in mutual funds. Here are some key restrictions they should be aware of:

Restrictions on Buying US-Based Mutual Funds

US-based financial institutions like Charles Schwab and Company, Fidelity Investment, and T.Rowe Price have restricted Americans living overseas from buying US-based mutual funds. This includes restrictions on purchasing mutual funds for IRAs and Brokerage accounts. However, there are limited exceptions for 401k plans. These restrictions are not due to US tax policies but are rather a business/risk management decision by these institutions.

Regulatory Challenges

Foreign jurisdictions are unable to regulate investment funds that are not registered in their countries. As a result, most countries prohibit the sale of foreign mutual funds, including US mutual funds, to residents. The Alternative Investment Fund Managers Directive (AIFMD) in Europe further restricts non-registered funds.

Tax Compliance

US citizens living abroad must navigate the tax requirements of both their host country and the US. Foreign mutual funds purchased by US citizens are often classified as Passive Foreign Investment Companies (PFICs) by the IRS and must be reported on Form 8621. These PFICs are punitively taxed, creating an additional financial burden.

Account Restrictions

US financial institutions may restrict accounts of Americans living outside the US due to compliance risks. This can make it challenging for US citizens abroad to access and manage their investments.

Workarounds and Alternatives

US citizens living abroad can consider purchasing Exchange-Traded Funds (ETFs) instead of mutual funds. ETFs trade like stocks and often have lower costs and more flexible redemption options. Additionally, working with expat-friendly US brokerage companies and seeking specialized expat financial advice can help navigate these restrictions.

Overall, US citizens living abroad face significant challenges and restrictions when investing in mutual funds. These restrictions are imposed by financial institutions and foreign jurisdictions, creating a complex landscape that requires careful navigation and specialized knowledge.

How to invest in international mutual funds

International mutual funds are a great way to diversify your investment portfolio and tap into the earning potential of different markets. Here's a comprehensive guide on how to invest in international mutual funds:

Understanding International Mutual Funds

International mutual funds are investment vehicles that allow individuals to invest in companies based in foreign countries. These funds are also known as foreign or overseas funds. Investing in international mutual funds can provide exposure to global markets and help minimize investment risks by diversifying across different asset classes and geographies.

Types of International Funds

When considering international mutual funds, it's important to understand the difference between global funds and international funds. Global funds invest in securities worldwide, including the investor's home country, while international funds exclude the investor's home country. Other types include regional funds, country funds, and global sector funds.

Advantages of International Mutual Funds

International mutual funds offer several benefits, such as:

• Geographic Diversification: By investing in international funds, you can reduce the impact of domestic market fluctuations and benefit from the positive market cycles of other countries.
• Cost-Effective Portfolio: International funds can provide access to foreign markets at a lower cost, as the fund is managed by experts.
• Portfolio Diversification: International funds allow investors to spread their investments across different markets, reducing the overall risk.

Factors to Consider Before Investing

There are several factors to keep in mind before investing in international mutual funds:

• Currency Risk: Currency exchange rates can fluctuate, affecting the value of your investment. For example, if the value of your domestic currency decreases against the US dollar, you will receive more domestic currency per dollar invested.
• Macroeconomic Factors: Political, economic, and social aspects of the countries in which you invest can significantly impact the performance of your fund.
• Taxation: International mutual funds may be subject to different tax regulations, such as long-term capital gains tax.
• Understand your Investor Profile: Determine your investment goals, risk tolerance, and time horizon. International funds are generally recommended for investors with a long-term investment horizon.
• Research and Compare Funds: Conduct thorough research on different international funds, considering their historical performance, fees, and investment strategies. Compare funds to identify those that align with your investment objectives.
• Choose a Reputable Fund Provider: Select a well-established fund provider with a strong track record and expertise in international investments.
• Follow Local Regulations: Ensure that you comply with the regulations of your country and the country in which you are investing. For example, in the US, mutual funds must be registered with the Securities and Exchange Commission (SEC).
• Consult a Financial Advisor: Consider seeking advice from a qualified financial advisor who can guide you based on your specific circumstances and goals.
• Monitor your Investments Regularly: Stay updated on the performance of your investments and the markets in which you have invested. Regularly review and rebalance your portfolio as needed.

Examples of International Mutual Funds

• Motilal Oswal Nasdaq 100 FOF Scheme
• Invesco India - Invesco Global Equity Income FoF
• Franklin India Feeder Franklin US Opportunities Fund
• ICICI Prudential US Bluechip Equity Fund
• PGIM India Global Equity Opportunities Fund

Remember, investing in international mutual funds carries risks, and it's essential to do your research and consult a financial professional before making any investment decisions.

Frequently asked questions