Is it time to go international?

With domestic stock valuations high, investing overseas could finally pay off

Apr 29, 2017 @ 12:01 am

By John Waggoner

The question for advisers now: When will the hurting stop? More importantly, if international investing is worthwhile, what do you need to tell clients?

No less a personality than John Bogle, founder of The Vanguard Group, has expressed skepticism about the value of crossing the border to invest.

"I'm a great believer in the U.S.," he told CNN Money in March. "Since 1993, the S&P 500 has gone up about 800%. The MSCI EAFE index of international stocks has gone up around 280%. I'm in no position to say whether the same thing will happen in the future or not. But I don't mind betting on the U.S."

Comments like that will come as a shock to advisers, who have been pouring their clients' assets into international ETFs for years. In the past 12 months, $49 billion has flowed into international stock ETFs, according to Morningstar. Of the 10 ETFs with the largest asset flows, six have been international stock ETFs.

(More: Vanguard, iShares dominate ETFs in April)

Unfortunately, clients have had little benefit from international exposure — not in the past 12 months, the past 10 years or even the past 40 years. For the record, the MSCI Europe, Australasia and Far East (EAFE) Index has gained an average 7% a year since 1977, versus 8.3% a year for the Standard & Poor's 500 stock index. If that weren't enough to make clients wonder about adding international stocks, consider this:

Volatility. Adding international stocks has increased a portfolio's average volatility the past five years. EAFE has averaged a 2.9% average annual gain the past three years, versus a 10.1% average annual gain for the S&P 500. EAFE's standard deviation the past five years: 13.28, versus 10.18 for the S&P 500. Much of that volatility stems from political risk in Europe, such as the British exit from the European Union and the never-ending series of Greek debt crises.

Currency risk. When the dollar is strong, returns from foreign funds suffer, and the strong dollar has meant lots of suffering for U.S. investors in international stock markets. For example, when measured in euros, the German stock market has jumped an average 9.9% the past five years, according to MSCI. In dollars: 5.5%. Of course, when the dollar is weak, returns from foreign stocks get a boost. So the best returns from international funds come when the dollar falls and foreign markets rise — which happens, but not that often.

Earnings. Finally, there's the matter of whether you benefit from increased opportunity from international ETFs. After all, there's usually a bull market somewhere in the world. But 46% of the earnings in the S&P 500 come from overseas operations of U.S. companies, according to Howard Silverblatt, senior index analyst for S&P Dow Jones Indices. If you're simply looking for profits from abroad, why bother to go there?

$49BAmount flowing into international stock ETFs in past 12 months

"There's something to be said for that," said Mark Mobius, executive chairman of Templeton Emerging Markets Group. "We treat Unilever as an emerging markets stock because 50% of its earnings are from emerging markets."

But the arguments for international investing are strong as well. Ignoring the rest of the world means missing some great opportunities.

"The reality is that 30% of the world's capital is in emerging markets, and 40% of the world's gross domestic product," Mr. Mobius said. "They not only have high growth, but great managers."

Not only does international investing give exposure to great companies, it can be a good diversifier for a stock portfolio.

"Our view is that stocks are stocks, whether they are in the U.S. or Japan or Germany," said Chris Philips, head of Vanguard's Institutional Advisory Services. "They all carry risks and opportunities. But diversification is the only free lunch out there. It makes more sense to have global exposure than to rely on one country's economic regime. The more inclusive a portfolio is, the better the average experience."

But what about those decades of lousy returns? Past returns, as the Securities and Exchange Commission is happy to remind you, are no indicator of future performance, Mr. Philips said.

Adding international ETFs to a stock portfolio has decreased returns and increased volatility for the past five years — something clients are probably not happy about. How do you address their concerns?

"If you look at the past five, 50 or 500 years, something has to be first and last. There's no indication that what has happened will happen," he said.

The ETF universe has also made it easier for advisers to invest overseas at lower costs than most actively managed international funds — and with greater flexibility and precision. A few examples:

Currency hedges. Currency cycles tend to be long: The trade-weighted U.S. dollar has been rallying since 2011 — it fell in value between 2002 and 2008. Advisers who want to avoid currency risk have a wide array of options, such as the iShares Currency Hedged MSCI EAFE (HEFA), which has gained an average 7.2% the past three years, versus 0.4% for its non-hedged cousin, iShares MSCI EAFE (EFA). WisdomTree Europe Hedged Equity ETF (HEDJ) has gained an average 9.9%. And if you can't decide whether or not to hedge, you can try half-hedged funds, such as IQ 50 Percent Hedged FTSE International (HFXI). It doesn't have a three-year record, but has gained 12.5% the past 12 months, versus 8.5% for the average large-company foreign blend fund.

Regional plays. The iShares India Small-cap (SMIN) ETF has beaten all other international ETFs the past three years, averaging a blistering annual 21.9% gain. That's probably too specialized for nearly any client's portfolio. But contrarians could consider ETFs that specialize in Europe, whose stock market has been in the global doghouse.

Dividends and buybacks. Dividends matter abroad as much as they do in the U.S. WisdomTree Japan SmallCap Dividend ETF (DFJ) has gained an average 11.5% a year the past three years, according to Morningstar. iShares MSCI Japan has risen 5.6% the same period. And PowerShares International Buyback Achievers ETF (IPKW) invests in foreign companies that continually repurchase their own stock. It's up 8.8% annually the past three years.

The international ETF sector is as prone to faddish offerings as the domestic ETF sector is. Several BRIC funds — which invest in Brazil, Russia, India and China — are still languishing in investors' portfolios. The BRIC fad was popular when all four countries' markets were soaring. The appearance of hedged international ETFs leads Mr. Philips to suspect that the days of the super dollar could be numbered. The financial industry is good at launching new products when a trend is peaking.

And if your clients are looking for investments that will shield them from the effects of a bear market in U.S. stocks, international ETFs are probably not going to help, whether they're hedged, pay dividends or stick to one region. Stocks are risk assets, Mr. Philips said, and bad bear markets will claw down most risk assets indiscriminately.

"In the last bear market, risky assets declined, whether they were stocks, commodities or real estate," he said. "If you are concerned about the effects of a bear market, you need to have assets in your portfolio that are not risk assets. That's the role of fixed income. If you expect international funds to zig when the U.S. market is zagging, that's a fool's errand."


What do you think?

View comments

Recommended for you

Sponsored financial news

Upcoming Event

Mar 13



arjuna-design is honoring female financial advisers and industry executives who are distinguished leaders at their firms. These women have advanced the business of providing advice through their passion, creativity, inclusive approach and... Learn more

All of the noise in the District of Columbia is distracting your clients. Ben Phillips of Event Shares explains what deserves your attention (and what doesn't) as we head into 2018.

Recommended Video


Latest news & opinion

Wells Fargo, Morgan Stanley use contrary tactics to keep advisers

Wells is helping brokers transition to independence within the firm, while Morgan is taking them to court.

Fidelity pushes Vanguard to compete on brand in 401(k) plans

With Fidelity imposing an additional fee, Vanguard likely will look less attractive compared with comparably priced index-fund providers, advisers said.

Goldman's measure of risk appetite hits record

Global stocks and U.S. Treasuries are seeing their most "extreme" start to a year ever, bank says.

Wells Fargo erasing hurdles for advisers looking to move to its IBD

If advisers commit to staying at FiNet for a two-to-three year period, they will not have to pay Wells the fees it currently charges advisers switching channels.

El-Erian warns advisers on ETF liquidity

If investors decide to exit exchange-traded funds en masse, things could get nasty, economist says.


Hi! Glad you're here and we hope you like all the great work we do here at arjuna-design. But what we do is expensive and is funded in part by our sponsors. So won't you show our sponsors a little love by whitelisting It'll help us continue to serve you.

Yes, show me how to whitelist

Ad blocker detected. Please whitelist us or give premium a try.


Subscribe and Save 60%

Last News

tax on rental income from house property caterpillar 401k 529 franklin templeton ira direct rollover form 1099 r distribution code 2 cola cost of living adjustment social security monthly earnings test aon hewitt company review college savings plans nj absolute return mutual funds list vanguard etf comparison thornburg funds convert a traditional ira to a roth ira prudential stable value fund ticker symbol social security death benefits for surviving children how much is morningstar premium membership when can i draw on my 401k selling in the money covered calls phoenix life insurance company boston ma t rowe price summit cash reserves mutual of america small cap growth fund vanguard ultra short term bond fund boiler room wolf of wall street south dakota state treasurer unclaimed property admiral capital management llc apollo international security salary merrill edge select portfolios maximum allowed 401k contribution 60 day ira withdrawal bank of america merrill lynch stock roth ira excess contribution t rowe price gold mutual fund how many funds in 401k john hancock ltc insurance