International Funds: Diversify Your Portfolio, Gain Global Exposure

Investing in international funds can be a great way to diversify your portfolio and reduce risk. By investing in companies outside of your home country, you can tap into growth in economies beyond your own and access different risk/return patterns. International funds can also provide a hedge against currency risk and geopolitical risks. Additionally, investing in international markets is easier and more affordable than ever with mutual funds and exchange-traded funds (ETFs). However, it's important to carefully consider the risks associated with international investing, including currency risk, geopolitical risk, and the potential for limited liquidity.

Diversification and reduced risk

Diversification is a key investment strategy to reduce risk. By spreading your money across a variety of assets, you can lower the chances of losing money if one particular investment performs poorly.

International funds can be a great way to diversify your portfolio and reduce risk. Here's how:

Geographical Diversification

Investing in international funds gives you access to companies and markets outside your home country. This geographical diversification is important because not all markets move in tandem. For example, the US and international stock markets may not always rise and fall at the same time. By owning both international and domestic securities, you can level out some of the volatility in your portfolio. This is known as "hedging against risk". The more diverse your portfolio is, the less likely it is that a single event or market downturn will significantly impact your investments.

Access to Broader Opportunities

The US stock market only represents a portion of the global investment landscape. By investing internationally, you open yourself up to a wider range of opportunities. International stock markets represent over 40% of the world's equity investment opportunities. This means that by ignoring international stocks, investors are missing out on a significant portion of the potential investments available.

Reduced Reliance on Domestic Economy

Investing in international funds can help reduce your reliance on the performance of your domestic economy. If your home country's economy experiences a downturn, having investments in other countries can provide a buffer and reduce the overall risk to your portfolio.

Currency Diversification

When you invest in a different country, you are also indirectly investing in that country's currency. Currency values fluctuate over time, and these fluctuations can impact the value of your investments. By diversifying across multiple currencies, you reduce the risk associated with relying on just one. If the value of your domestic currency decreases, your international holdings in other currencies may provide a hedge against that loss.

Sector Diversification

Different countries may have strengths in different sectors or industries. For example, emerging markets may offer opportunities in the technology and internet sectors, while more developed countries may have strong financial or industrial sectors. By investing internationally, you can gain exposure to a broader range of sectors and reduce the risk associated with being overly concentrated in a single industry.

In summary, investing in international funds can be a powerful tool for diversification and risk reduction. It allows you to spread your investments across multiple geographies, currencies, and sectors, reducing the impact of any single event or market downturn. By investing internationally, you can access a broader range of opportunities and potentially improve the overall performance and stability of your investment portfolio.

Access to faster-growing economies

Investing in international funds can give you access to faster-growing economies. This can be achieved through investing in international stocks, which are shares of companies located outside your home country. International stocks can be purchased directly on international exchanges or through American Depository Receipts (ADRs), which are certificates issued by U.S.-based financial institutions that represent a share of a foreign company's stock.

Investing in faster-growing economies can provide several benefits. Firstly, it can help to diversify your portfolio and reduce risk. By investing in companies from different countries and industries, you can lower the impact of a single stock's performance or instability in a specific country on your overall portfolio.

Additionally, investing in faster-growing economies can provide access to higher returns and growth potential. These economies may offer favourable conditions, such as progressive government policies, tax incentives, and access to natural resources, and a more rapid pace of industry growth compared to domestic markets. Investing in international funds can also provide exposure to different currencies, which can be advantageous if these currencies are appreciating against the U.S. dollar.

Furthermore, investing in international funds can help to mitigate volatility in your portfolio. Markets outside the United States don't always rise and fall at the same time as the domestic market, so owning a mix of international and domestic securities can smooth out some of the fluctuations in your portfolio.

When considering investing in international funds for access to faster-growing economies, it is essential to carefully research and understand the risks involved. These risks include currency risk, geopolitical risk, and the potential for limited liquidity in some foreign markets. Additionally, it is crucial to consider the fees and expenses associated with international investing, as well as the tax implications, especially when investing in companies from different countries.

Overall, investing in international funds and accessing faster-growing economies can be a valuable strategy to diversify your portfolio, hedge against risk, and potentially achieve higher returns. However, it is important to carefully evaluate the risks and costs involved before making any investment decisions.

Currency appreciation

Understanding Currency Appreciation

Impact on International Funds

When an investor holds international funds or assets denominated in a foreign currency, currency appreciation can affect the value of those investments. For example, if an investor holds stocks or bonds in a country with a currency that appreciates against their domestic currency, the value of those investments will effectively increase when converted back to their home currency. This can result in higher returns for the investor. On the other hand, if the foreign currency depreciates against their domestic currency, the value of their international investments may decrease.

Benefits of Currency Appreciation

Impact on Exporters and Importers

Factors Influencing Currency Appreciation

Several factors can influence currency appreciation, including strong economic fundamentals, interest rate differentials, foreign investment, trade surpluses, and government intervention. Strong economic performance, such as high GDP growth and low inflation, can attract foreign investment and increase demand for a country's currency, leading to appreciation. Higher interest rates can also make a country's assets more attractive to foreign investors, increasing demand for their currency. Additionally, foreign direct investment and trade surpluses can contribute to currency appreciation by increasing the demand for a country's goods and services.

Managing Currency Risk

While currency appreciation can provide benefits, it is important for investors to carefully consider and manage currency risk. Currency values can be volatile and subject to rapid changes. Investors can use various strategies, such as hedging and diversifying their currency exposure, to mitigate the potential negative impacts of currency fluctuations. Additionally, staying informed about economic indicators and exchange rate trends can help investors make more informed decisions when investing internationally.

Superior returns

International funds can provide superior returns compared to US stocks. Here's how:

Diversification and Risk Reduction

Firstly, international funds offer diversification benefits that can reduce risk and enhance returns. By investing in international stocks, you are not putting all your eggs in one basket, so to speak. Markets outside the US don't always rise and fall simultaneously with the US market. Therefore, owning a mix of international and domestic securities can smooth out the volatility in your portfolio. This diversification benefit is especially pronounced when investing in emerging markets, which tend to have a wider range of potential outcomes.

Access to Broader Opportunities

International funds also provide access to a broader range of investment opportunities. The ex-US market constitutes about 40-45% of the world's market capitalization. By ignoring international stocks, investors are missing out on almost half of the world's investing opportunities. International markets, especially emerging markets, can offer higher growth potential. For instance, from 1998 to 2007, the MSCI emerging markets index generated an impressive annualized return of 19.8%.

Geopolitical Advantages

Investing internationally may also expose your capital to faster-growing economies and favourable conditions such as progressive government policies, tax incentives, and access to natural resources. These factors can boost the growth of specific industries, leading to higher returns for investors.

Currency Appreciation

By investing in a foreign country's companies, you are also indirectly investing in its currency. If these currencies appreciate against the US dollar, it can boost your investment returns. For example, if you had invested in Chinese or Indian stocks over the past two decades, you would have benefited from the significant appreciation of the yuan and rupee against the dollar.

Undervalued Markets

Currently, international stocks are considered undervalued compared to US stocks. The forward price-to-earnings ratios of stocks in international markets are lower than those in the US, indicating that they may provide better value.

In summary, investing in international funds can lead to superior returns by reducing risk through diversification, accessing high-growth markets and industries, taking advantage of favourable geopolitical conditions, benefiting from currency appreciation, and capitalizing on undervalued markets.

Tax advantages

Investing in international funds can be advantageous for several reasons, including tax advantages. Here are some key points to consider regarding the tax advantages of investing in international funds:

• Diversification and Risk Mitigation: International funds offer geographical diversification, allowing investors to spread their investments across various countries and regions. This diversification helps to mitigate the risk associated with investing in a single market. By investing in international funds, you can take advantage of economic cycles in different countries, ensuring minimal losses and potentially smoother returns.
• Tax Credits and Deductions: When investing in foreign companies, individuals may be subject to taxes in the company's home country. However, many countries have favourable tax treaties with other nations, which can result in tax credits or deductions. For example, the United States offers a foreign tax credit, allowing taxpayers to offset their liability with the IRS by deducting foreign taxes paid.
• Currency Exchange Rates: Currency exchange rates fluctuate, and investing in international funds can provide an opportunity to benefit from these changes. For instance, if the value of the rupee decreases against the US dollar, investors can gain more rupees per dollar invested, increasing their returns.
• Long-Term Capital Gains: In some cases, investing in international funds may result in long-term capital gains tax treatment. For example, hybrid global funds that invest a significant portion of their corpus in domestic companies may offer returns that are taxed as long-term capital gains.
• Tax-Efficient Portfolio: By investing in international funds, individuals can create a more tax-efficient portfolio. Diversifying across multiple markets and asset classes can help maximise after-tax returns and potentially lower overall tax liability.
• Expert Management: International funds are often managed by qualified intermediaries or fund managers who have expertise in global markets. They can help investors navigate the complex tax landscape of different countries and make informed decisions to optimise their tax positions.

It is important to note that tax laws and regulations vary across countries, and it is always advisable to consult a tax professional before making any investment decisions. Additionally, the tax treatment of international funds may differ based on the investor's country of residence and the specific structure of the fund.

Frequently asked questions