By Jane Young, CFP, EA
Many investors are wondering if they should continue investing in international stock amid the disruptions from the war in Ukraine, the pandemic, and supply chain issues. A fundamental objective in maintaining a well-balanced portfolio is diversification. Broad geographic diversification, gained from international stock funds, helps you spread out risk. Getting exposure to markets outside the U.S. provides opportunities for return that you will not get from the U.S. stock market.
International stock represents 51% of the world’s total stock value. We naturally have a favorable bias toward U.S. companies but limiting your portfolio to domestic stock results in a missed opportunity to invest in a substantial portion of companies throughout the world.
Investing 51% of your stock portfolio in international funds is too aggressive for most investors. Alternatively, an allocation of around 20% provides you with a meaningful allocation without assuming too much risk. This will vary for each investor depending on your timeframe and risk tolerance.
Domestic stock has outperformed international stock since 2011 but U.S stock does not always outperform. Historically, domestic and international stock has traded off, for extended periods of time, on outperforming each other. Performance data for 10 year rolling periods since 1971 shows that U.S. stock only outperformed international stock 56% of the time.
The Fidelity Asset Allocation Research Team expects international stock to outperform domestic stock over the next 20 years. The disparity between the value of international stock and U.S. stock is currently larger than normal. Prices of international stock are lower and offer a relative bargain in comparison to U.S. stock. Portfolio managers are currently holding more U.S. stock than usual, and the strength of the U.S. dollar is currently favorable for international stocks. Stock in developed markets outside the U.S. is paying a higher dividend yield of 2.59% compared to 1.29% for U.S. stock.
International stock is selling at bargain prices, provides broader opportunities and reduces risk through greater diversification but it is also more volatile. While you may be exposed to faster growing economies and different currencies you are also subject to risks associated with currency fluctuations, political instability, and changes to regulation and taxes.
Developed countries including many EU countries, Australia, Japan, and Canada are less volatile than emerging markets that include South American, Southeast Asia, and Africa. Emerging markets will see the most growth over the next 20 years, but they are also significantly more volatile. Consider investing around 20% of your international allocation in emerging markets, depending on your financial goals.The easiest and least risky way to invest in international stock is through mutual funds and ETFs that invest in a broad variety of regions and countries. You can select funds that invest exclusively in developed markets or emerging markets. Actively managed funds will have higher fees than passive index funds, but the added complexity of international investing may warrant a reasonable premium in the management fee.