Imagine that you are given a small portfolio of stocks. In this gift, you must choose between specific stocks.
Would you choose GE or Philips? Kroger or Ahold? Hershey or Guylia? Dow or BASF?
If you’re like most consumers — as well as many financial advisers and institutional money managers — you would choose GE, Kroger, Hershey and Dow. These are familiar names, so you followed one of the common tenants of investing, which is to invest in what you know.
Given that these choices aren’t all in the same industry, you’d also be providing this hypothetical portfolio some diversification. However, there is a lack of diversification that might not be readily noticeable. GE, Kroger, Hershey, and Dow are all United States companies, while Philips, Ahold, Guylia and BASF are based outside the U.S.
While the U.S. equity market is a huge portion of the global equity market — 60% by some metrics — the holdings of individual equity portfolios in the U.S. tend to be outsized, close to 80%, according to Joy Clady, a certified financial planner.
Her research identifies several reasons for this, including patriotism, concerns about individual country risks, currency fluctuations, geographical distance and general familiarity with a particular company. The inclination to hold investments in the investor’s home country is also common outside the US. Around the world, individual investors tend to hold a majority of their investments in their home country.
Sonya Lutter, founder of EnLite (enlite.world), points out that money and financial decisions are stressful for many people, and defaulting to investments that are familiar can reduce that stress.
Wes Crill, head of Investment Strategists and vice president at Dimensional Fund Advisors, says, “Investors who are only focused on U.S. markets are missing out on a literal world of opportunity — thousands of securities worth trillions of dollars — just waiting to provide diversification benefits.”
Expanding international holdings could actually lower risk in a portfolio. Having the vast majority of your investments in one country, with the same economic pressures, currency fluctuation and political issues, concentrates risk.
The information age has made information about international investments easier to find. If you see the logic in broadening your global diversification, there are some easy ways to accomplish that.
If you tend to invest in mutual funds and exchange traded funds (ETFs), there are straightforward ways to increase your international holdings without having to do too much research and vetting. Most of the investment firms who provide mutual funds and ETFs have international options available. Adding or increasing quality holdings in those options may have the result of lowering risk without a sacrifice of long-term returns.
We all want to have investments that help us meet our long-term financial goals while allowing us to sleep at night. Quality investments outside the U.S. can be part of that strategy.
Linda Leitz is a certified financial planner. She can be reached at [email protected]