Foreign stocks may have underperformed their U.S. brethren over the past 10 years, but international stocks and bonds still should be part of a balanced portfolio, advisers say.
“Foreign stocks and bonds add diversification to the portfolio, leading to a less rocky ride over time,” said Tom Fredrickson, a CFP, and an adviser in Brooklyn, New York, for the Garrett Planning Network. “A blend of these different kinds of investments through different periods tends to reduce volatility in an overall portfolio.”
And this year, many foreign stock markets are outperforming the U.S.
“Last year, commentators urged investors to dump foreign stocks, because they had underperformed over the past five to 10 years, compared to U.S. stocks,” Fredrickson says. “This year proves the benefit of international investing.”
Given the significance of overseas economies, it makes sense to invest in their stocks, said Taylor Gang, a CFP, and a principal and wealth manager at Evensky & Katz/Foldes Financial Wealth Management in Coral Gables, Florida.
“The U.S. is a smaller piece of global GDP than it used to be,” he said. “That suggests a whole lot of the world’s business takes place outside the U.S.”
Concentrating too much of a client's portfolios in U.S. stocks creates too much risk, Gang said.
Over short periods, foreign stocks can increase volatility in a portfolio, such as the period after the U.K.’s vote to withdraw from the European Union in June 2016.
“But over the long run they will tend to reduce volatility,” Fredrickson says.
When it comes to returns, emerging markets, in particular, provide strong opportunities, experts say.
“Emerging markets are where the growth is concentrated and probably will be for the next 20 years,” Gang said. “Higher returns are expected over time there, though that comes with higher volatility.”
One major issue for portfolios with foreign stocks and bonds is currency exposure. If the dollar strengthens, the value of foreign stocks and bonds falls in dollar terms, hurting clients.
But if the dollar falls, that will boost the value of clients’ foreign stocks and bonds.
“Currency fluctuation can be positive or negative for international holdings,” Gang said.
If clients want exposure to foreign currencies, hoping to benefit from dollar weakness, steer them to foreign stock and bond funds that don’t hedge their currency positions. But if clients want protection from a strong dollar, put them into funds that do hedge, though these funds can cost more than unhedged funds.
Dan Weil’s work has appeared in The New York Times, The Wall Street Journal, Bloomberg, Institutional Investor and Tennis magazine.
This story is part of a 30-30 series on building a better portfolio.