Time to Go Global?

by Nancy Zambell, Contributing Editor, Financially Fit

In addition to the different styles of investing I witnessed at the recent World Money Show in Orlando, I found that global investing was a recurrent theme among most of the financial advisors at the conference. And why not? Equities outside the U.S. account for more than 40% of the world equity markets.

Furthermore, investing outside the U.S. has generated fabulous profits for the past four years. According to http://www.smartmoney.com, in 2006, world equity funds almost doubled U.S. returns - bringing home an average 24.2% gain. 

Millions of investors benefited as they poured cash into foreign mutual funds. The Investment Company Institute reports that last year, the average amount of money flowing into domestic funds was $2.04 billion a month, while foreign funds received an average of $12.31 billion a month.

All of the top ten mutual funds of 2006 had heavy foreign investment exposure, and posted gains of 65% - 86% - for one year!

These numbers are impressive and I heard advisors throughout the World Money Show touting the two primary advantages of going global: Stellar returns and diversification.

And while I wholeheartedly believe that investors should have exposure to foreign investments, I disagree with some pundits who are advising investors to put 35%, 50%, even 65% of their portfolios into international markets.

The reason: Global investing comes with unique risks that can not only cause tremendous volatility in foreign companies' stock prices, but also determine their immediate and long-term futures:

Economic and political instability: Many foreign countries are at risk for political coups, adverse government maneuvers - such as the nationalization of businesses - and legislative and taxing actions that can significantly reduce the value of an investment.

Foreign Exchange: Currencies fluctuate and the value of investments in foreign exchange can change drastically in relation to the U.S. dollar, quickly evaporating any gains. Additionally, in the long-term, escalating inflation is a huge risk to an investment's value.

Market: Foreign financial statements can be a challenge. Different languages plus unfamiliar - often, unregulated - accounting practices can become a landmine for naïve investors. Additionally, the lack of ability to easily trade shares in foreign markets can cause tremendous liquidity problems.

However, that being said, investors would be doing themselves a huge disservice by not including foreign exposure in their portfolios. Fortunately, there are several methods to do just that, while mitigating the above risks:

Exchange-traded funds. These instruments - baskets of stocks - are growing at a phenomenal rate, now numbering more than 300, domestically and internationally. The American Stock Exchange (http://www.amex.com/?href=/etf/EtMain.jsp) currently lists 35 international ETFs while Morningstar's site has 75. (http://news.morningstar.com/etf/Lists/ETFReturns.html)

Mutual funds. Morningstar lists 2,531 international stock funds - a fund for just about any country or investing style.  (http://screen.morningstar.com/fundsearch/FundRank.html)

Multi-national companies. Our U.S. stock exchanges offer hundreds of opportunities to invest in companies that gather a large portion of their profits from their overseas operations.

ADRs (American Depositary Receipts). ADRs are securities denominated in U.S. dollars that typically represent a non-U.S. company's equities. They are traded on the major U.S. exchanges. The Bank of New York's web site advises that there are now more than 2,000 ADRs from more than 70 countries. They are subject to U.S. accounting rules and offer familiar trade, clearance and settlement procedures. (http://www.adrbny.com/dr_directory.jsp)

For the average investors, the ETF and mutual fund options offer an opportunity to vastly expand their portfolios with investments that have been reviewed and analyzed by professionals who specialize in the particular country or sector in which the fund or ETF invests. Investing in multi-nationals - many large-cap, blue-chip companies - presents an easy path to international exposure. And with ADRs, investors can rest assured that they are subject to the same accounting and trade procedures endemic to U.S. securities.

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Although these options present considerably less risk than investing directly in foreign securities, they, of course, do not guarantee a profit. As well, global investing generally tends to incorporate a large degree of volatility, pressuring gains and creating uncertainty in trying times. Therefore, investors must determine if a particular investment satisfies their individual risk profiles and investment strategies.

Yet, the opportunities for profit and diversification are immense. In the next couple of Financially Fit issues, I will expand this discussion with a look at investing in developed and emerging markets, risks of U.S currency fluctuations and the tax ramifications of investing overseas.

Until next week…

This concludes this week's issue of Financially Fit.  We encourage you to visit our website to review past issues of Financially Fit:

http://www.brokeradviser.com/newsletter.cfm


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