Overlooking International Investments Could Prove Costly

Whether it is because people perceive investing overseas is more risky, want to support their local economy or simply unaware of the ability to invest in international companies, many investors invest very little if at all internationally. Through awareness and an increased number of investment choices this is beginning to change. USA Today reports:

Lured by red-hot gains in foreign markets, investors poured money into international stock mutual funds at a record-shattering pace in 2006.

Investors flooded international stock funds with an estimated $150 billion last year, according to TrimTabs.com, which tracks flows of money into and out of mutual funds. An estimated $180 billion flowed into stock funds of all types.

By contrast, “The $30 billion that went to U.S. stock funds is the smallest since 2002,” says Charles Biderman, CEO of TrimTabs.com.

It is no surprise that many international markets have been growing at a fantastic pace providing outstanding returns on various indexes and international funds. What is shocking is the sheer volume of money that is moving into foreign investments currently when compared to domestic counterparts.

Surging foreign stocks and a falling dollar have sent international funds flying, and investors are chasing the gains, Biderman says. The average large-company international core fund gained 24.3% in 2006, vs. 12.4% for the average U.S. stock fund, according to Lipper.

Outsized gains in European stocks have propelled much of the rise in international funds. The German DAX index has gained 22.8% over the past 12 months. The falling dollar has amplified those gains: A U.S. investor in the DAX index would have gained 30.9%, according to Bloomberg.

Clearly these are very nice returns and it would make sense to include some of this in your own portfolio. This does not mean you should rush out and buy a bunch of international ETFs or mutual funds. Just as investing domestically requires diversification and planning, so does foreign investing. As mentioned above there are many pure foreign indexes that are comparable to the S&P or Nasdaq, but in this case they may be country specific. So simply buying the DAX index or the Nikkei will certainly give you international exposure, you wind up only investing in one region of the world. It would be wise to allow your international exposure to encompass as many of the different regions of the world as you can. Another thing to consider is that foreign investments come in different flavors just like the domestic counterparts. You have small-cap to large-cap and various industries and sectors to consider.

One problem people face with international investing is they take a very narrow approach. They want to take advantage of the potential but generally end up investing in a very small slice of the total world market which can end up being very volatile. This is no different than if you had all of your portfolio in one narrow index fund or one sector. Don’t worry though, are ways to easily diversify across the globe.

If you are looking for a shotgun approach to cover as much area with the fewest number of investments you can start by taking a look at the Vanguard International Value Fund (VTRIX). This fund covers primarily European countries and Asia with a small amount in Central America. It doesn’t cover the entire globe but it does factor in enough to be a reasonable core foreign holding. Also note that this focuses on value as opposed to growth companies which can limit diversification value as well. With 1 and 3-year annualized returns over 20% and a 5-year of 17% it has a solid track record.

If ETFs are more your style you can accomplish an international mix similar in geographic allocation with the iShares MSCI EAFE Index (EFA). This exchange-traded fund tracks the most well-known international benchmark: the MSCI Europe, Australasia, and Far East (EAFE) Index. This index has comparable returns with 1 and 3-year annualized returns of right around 20% and a 5-year of 15.3%.

Of course there are hundreds of international investments available to you, some focusing on emerging markets, others on certain industries and regions. Be selective in choosing your international investments just as you would any other investments. Also, don’t be a foolish investor and jump into foreign funds just because of the hot returns. You want to invest globally because it is a smart decision for diversifying your portfolio for long-term results. Generally professionals recommend international holdings make up a limited portion of your portfolio with 10% as a general rule of thumb. While this applies well for most investors I tend to increase this to around 20% for individuals under 40 years old provided the international holdings are adaquately diversified.

In the end we have to realize that we are increasingly becoming a global economy and investing overseas can have a significant impact on your portfolio. The world is a big place and some regions are growing just as fast or faster than the U.S. economy so ignoring investments in other parts of the world is only doing a disservice to your overall investment plan. If the information provided by USA Today is any indication it would make sense to take a look at your situation and determine if you could improve your exposure to the global market. Your portfolio may thank you.

Source: U.S. Investors Send Their Cash Packing

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About the Author: Jeremy Vohwinkle is a Chartered Retirement Planning Counselor® and spent a few years working as a financial planner. Today, he helps people make the most of their money by writing about personal finance here and elsewhere on the web. Jeremy is also Coach at Adaptu and a regular contributor for other publications such as Intuit, and American Express. Be sure to follow Jeremy on Twitter or Google+.

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