Global investing: One world, one fund
Many experts say you don't need to invest in U.S. and foreign stocks separately. So are new 'global' funds the way to go?
(Money Magazine) -- Deciding where in the world to invest can be just as important as choosing what to invest in. But if you've tried pinpointing the best markets over the years, you know it's like shooting at a moving target.
In the 1980s, Japanese stocks were the surest path to investment success. In the '90s, it was the U.S., thanks to our booming tech economy. So far this decade, foreign equities are again shining the brightest - this time thanks to the emerging economies of China, India and Latin America. If you had to keep traipsing around the world hoping to spot these tectonic shifts early enough to take advantage of them, you'd suffer perpetual portfolio jet lag.
Here's the thing, though: You don't have to globe-trot anymore. Dozens of new portfolio mutual funds have been launched recently that promise to simplify your life by investing in a diversified mix of foreign and U.S. stocks. In other words, you can now gain exposure to all the world's stock markets through a single mutual fund.
The rise of these global funds reflects a significant shift in thinking. It's long been argued that you need both U.S. and foreign stocks at all times (because different markets run on different cycles and because you want to diversify your currency exposure).
What's changed is the idea that you need to treat U.S. and foreign stocks as distinct assets. In a world where around 65% of McDonald's (MCD, Fortune 500) revenue comes from overseas and 35% ofToyota's (TM) sales are made in North America, what's the point? "Stock picking is stock picking," says Mike Thompson, a managing director of Thomson Reuters.
Global stock funds aren't exactly new. The concept has been around since the 1950s. But only recently have these funds grabbed investor attention. In the past three years, 59 new global funds have been launched, according to Morningstar.
And some of the industry's most respected players are joining the trend, lending further credibility to it. Dodge & Cox, for instance, launched its first global fund in May. And Vanguard announced plans to roll out an index global fund this summer.
While you should always be wary of hitching your wagon to a hot investing trend, there's a strong argument for using a global fund as a core holding - in other words, a fund you should always have in your portfolio because it gives you exposure to a critical asset class.
With a global fund, you don't have to decide what your mix of foreign and domestic stocks should be at all times. In the case of actively managed portfolios, the fund managers will make those adjustments for you, based on where they think the best opportunities are. With Vanguard's index fund, your exposure will be based on each country's share of world market capitalization.
The simplest way to incorporate these funds into your plan is to use one to replace your existing large-capitalization U.S. stock funds and foreign portfolios.
If that's your strategy, you might want to stick with a global fund that keeps about half or more of its assets in the U.S. After all, you don't want to take on too much foreign currency risk by investing the majority of your money abroad.
If you plan on hanging on to a few other domestic portfolios - for instance, a specialty sector fund or a small-cap fund - those holdings will help boost your overall exposure to the American market.
Some financial planners warn that by giving a fund the latitude to invest around the world, you give up control of your foreign exposure. "My concern is that the fund managers will take on too much risk if one area, like foreign, is doing really well," says Northampton, Mass. planner John Perkins.
That's a valid concern. But remember that the majority of U.S. stock funds are also venturing overseas. More than 80% of U.S. large-cap stock funds now own foreign equities, and some keep more than 50% of their assets abroad.
What's more, history says the difference in performance isn't that big over the long run. T. Rowe Price analyzed various combinations of U.S. and foreign equities. From 1970 to 2007, a 60% U.S.-40% foreign mix delivered an average annual return of 11.3%, as did a fifty-fifty mix. A 60% foreign-40% U.S. portfolio did only slightly better - 11.4%, with a slightly bumpier ride.
Foreign stocks don't diversify your portfolio as much as they once did. Over the past five years, U.S. and foreign equities have moved more or less in lockstep, a big change from 2000. What foreign stocks can still do is help you cast a wider net in your search for the best investments.
A recent report from Ned Davis Research found that at the moment the biggest performance differences among equities are between market sectors, not countries. Global funds are best positioned to take advantage of this trend.
Why? They can simply pick the best stocks in the world, no matter where the companies have their headquarters. Your foreign-only fund manager, on the other hand, might be compelled to invest in, say, a European drugmaker even if he thinks that some U.S. pharmaceutical companies are better picks.
So far this global-mindedness has paid off. Among world stock funds with at least a 10-year history, the average annualized return is 6.2%. That beats the S&P 500's record of 3.8% and nearly matches the 6.8% annual gain for the Morgan Stanley EAFE index of foreign equities.
As with all fund decisions, though, you can't just rely on past performance. Here are a few points to consider before taking the global plunge.
Know the fund's style Not all global funds are created equal. Some funds will gravitate toward shares of fast-growing companies, while others will focus on beaten-down or overlooked value stocks.
Moreover, many currently embrace a foreign-heavy mix. The typical global fund recently kept only around 40% of its assets in U.S. equities, according to Morningstar. Some have been holding even less: As of the end of March, just under 14% of the stocks in Mutual Discovery Z were based in the U.S.
Consider track records Though many global funds are new, there are several with solid long-term records. T. Rowe Price Global Stock fund and Vanguard's managed fund, Vanguard Global Equity, are more than a decade old. And each has beaten more than 70% of its peers over the past three, five and 10 years.
If you're considering one of the many new global funds, make sure the firm running it has a good record managing foreign and U.S. assets. For example, Dodge & Cox Global Stock will rely on the same analysts who work on its sibling U.S. and international funds, both of which have beaten around 80% of their peers over the past five years.
Says Morningstar senior fund analyst Dan Culloton: "It will be the company's best ideas unconstrained by any geographic requirement."
Go cheap As always, you want to minimize expenses. On average, global funds bill investors 1.55% annually. But the newest funds are expected to pull the average down: Dodge & Cox has said it will cap its annual fee at 0.9%, and Marsico Global charges 0.75%.
As William Bernstein, co-principal of Efficient Frontier Advisors and author of A Splendid Exchange, a book about the history of world trade, says, "Performance comes and goes; expenses are forever." That's true whether you're investing in the U.S. or in foreign markets. Or both.
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