International Funds: Worth The Investment Risk?

Investing in international funds can be a great way to diversify your portfolio and reduce reliance on domestic markets. While it's true that US stocks accounted for nearly half of the global equity market capitalization in 2023, there are still plenty of opportunities for growth in international markets. For example, emerging markets such as China, India, Brazil, Russia, and South Africa have delivered stellar annualized returns. International stocks can also help to buffer against potential stagnation in the US market and provide exposure to a wider array of economic and market forces across regions and nations. Additionally, investing in international funds can be easier and more affordable than ever before with mutual funds and exchange-traded funds (ETFs). However, it's important to keep in mind that investing in international stocks does come with risks, including geopolitical and currency risks, that investing solely in domestic stocks doesn't.

International funds can help to diversify your portfolio

Secondly, international funds can help to reduce your reliance on domestic markets and enhance returns. For example, while the US stock market posted a compound annual growth rate of 1.7% between 1999 and 2009, international developed markets yielded a more robust 4.1% annualised return.

Thirdly, international funds can provide exposure to industries not heavily represented domestically. For example, while US multinationals tend to represent the technology and healthcare sectors, other important parts of the global economy, such as basic materials, are underrepresented.

Finally, international funds can help to offset US-centric indexes that are largely dominated by technology stocks. For example, the S&P 500 index fund put 26.8% of its holdings in technology stocks, whereas the SPDR Portfolio Developed World ex-US put just 8.4% in technology stocks and 23% in financials.

They can also reduce your reliance on domestic markets

Investing in international funds can be a great way to reduce your reliance on domestic markets. By investing in international stocks, you can gain exposure to a wider range of economic and market forces across different regions and countries. This diversification can benefit investors by spreading investments across both domestic and international opportunities, allowing you to take advantage of strong-performing regions while mitigating the impact of underperforming areas.

One of the key advantages of investing in international funds is the reduced reliance on the US market, which accounted for about 44.9% of the global equity market capitalization in 2023. By diversifying into international stocks, you can access the remaining 55.1% of the global market, which includes developed markets such as the UK, Japan, Australia, Canada, and France, as well as emerging markets like India, China, Egypt, South Africa, Mexico, and Russia. This diversification becomes especially important during challenging economic periods for the US, such as the "lost decade" from 1999 to 2009, when the US stock market posted a meagre compound annual growth rate of just 1.7%. During this time, international developed markets yielded a more robust 4.1% annualised return, while emerging markets delivered an impressive 13.7% annualised return.

Another benefit of investing in international funds is the potential to tap into industries that may not be heavily represented in the US market. For example, while US multinational companies tend to focus on technology and healthcare, investing in international stocks can provide exposure to other important sectors such as basic materials. This can help investors gain a more balanced portfolio and reduce their reliance on a single market or industry.

Additionally, international stocks can act as a buffer against US-centric indexes that are heavily influenced by technology stocks. By investing in international funds, you can reduce your sector exposure and lower the impact of any downturns or volatility in the technology industry. This was particularly evident during the dot-com bubble burst in the early 2000s, which had a significant impact on the US market but had less effect on international stocks.

When considering investing in international funds, it's important to keep in mind the potential risks and challenges. These include geopolitical risks, currency fluctuations, and economic downturns in specific countries or regions. However, by carefully selecting funds and diversifying your portfolio, you can manage these risks while still taking advantage of the benefits of investing internationally.

International funds can help you invest in emerging markets

Emerging markets offer investors significant gains, but they also come with higher risks due to the volatile nature of their economies and infrastructures. Within emerging markets, investors can find funds representing leading sub-segments such as the BRICS nations (Brazil, Russia, India, China, and South Africa).

International funds provide access to a wide range of foreign securities, helping to increase the diversification of an investor's portfolio. This diversification is particularly beneficial as markets outside the United States don't always rise and fall simultaneously with the domestic market. By owning both international and domestic securities, investors can level out some of the volatility in their portfolios.

For example, while the U.S. stock market posted a meagre compound annual growth rate of 1.7% between 1999 and 2009, international developed markets yielded a more robust 4.1% annualized return, and emerging markets delivered an impressive 13.7% annualized return during the same period.

When considering investing in international funds to access emerging markets, it's important to keep in mind the risks involved, such as currency volatility and changing economic or political environments. However, the higher relative risk in emerging markets generally provides higher potential returns, making them an attractive option for investors seeking higher returns and willing to tolerate the associated risks.

They can be a good way to invest in foreign companies

International funds can be a good way to invest in foreign companies. They offer diversification, exposure to global growth, and industry representation. By investing in international funds, investors can access stocks from outside their domestic market, reducing their reliance on local companies and potentially enhancing their returns.

One of the key advantages of investing in international funds is diversification. International funds provide access to a wide range of foreign securities, which can help to reduce the overall risk of an investment portfolio. For example, markets outside the United States may not always rise and fall at the same time as the domestic market. By owning a mix of international and domestic securities, investors can level out some of the volatility in their portfolio.

International funds also offer exposure to global economic growth and industry representation. U.S. multinational companies tend to represent certain parts of global industries and not others. For instance, investing only in U.S. multinationals may result in an overrepresentation of technology and healthcare firms while underrepresenting other important sectors such as basic materials. By investing in international funds, investors can gain exposure to a wider array of economic forces and industries across different regions and nations.

In addition, international funds can provide a hedge against geopolitical risks and currency fluctuations. Investing in foreign companies located in different regions can help mitigate the impact of geopolitical events and economic downturns in an investor's home country. Additionally, investing in international funds can offer exposure to different currencies, which can be beneficial when the U.S. dollar strengthens or weakens against other currencies.

Lastly, international funds can provide access to emerging markets with high growth potential. Many emerging markets, such as China, India, Brazil, and South Africa, have delivered impressive returns in recent years. These markets often have younger populations, rapidly growing economies, and innovative companies in sectors such as technology and e-commerce. By investing in international funds, investors can tap into the growth potential of these emerging markets.

International funds can be more volatile than US funds

• Geopolitical risks: International investing is subject to geopolitical risks that can impact specific countries or regions. For example, the Russia-Ukraine conflict has disrupted energy production and supply chains, affecting international markets.
• Currency fluctuations: Exchange rates between the US dollar and other currencies can impact the value of international investments. A strong dollar can make US goods more expensive for foreign consumers, hurting US businesses.
• Economic growth: Some countries may experience slower economic growth or higher inflation compared to the US, which can affect the performance of international stocks.
• Interest rates: Changes in interest rates in other countries can impact the performance of international stocks. For example, an increase in interest rates in Europe may slow down economic growth in the region.
• Country-specific factors: Each country has its own unique set of political, social, economic, and regulatory risks that can impact the performance of international stocks. For example, the COVID-19 lockdowns and housing market issues in China have affected the valuations of Chinese stocks.
• Sector representation: International funds may have different sector representations than US funds, which can impact their performance. For example, international funds may have a higher weighting in financials, consumer cyclicals, or industrials.
• Emerging markets: Investing in emerging markets, such as China, India, or Brazil, can offer higher returns but also carries higher risks due to less developed markets, less advanced economies, and political instability.

Despite the potential volatility, international funds can provide valuable diversification to an investment portfolio and should not be overlooked. They offer exposure to a wider range of economic and market forces and can help investors benefit from the performance of different regions. Additionally, international stocks can provide access to industries that may not be heavily represented in the US, such as basic materials.

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