Investing in global small caps

U.S. stocks represent only about 46% of the world’s market capitalization -- a percentage that’s likely to shrink in coming years. While many Americans are comfortable investing in foreign multinational companies whose brands are household names in the U.S., the prospect of owning smaller overseas equities can be intimidating.
“There’s definitely greater risk,” admits Alec Young, global equity strategist at S&P Capital IQ. But Young sees the potential for greater reward outweighing that risk. “I’d say advisors definitely want to be looking at including small-caps, similar to what they’re doing in the U.S.,” he adds.
It’s not always easy to navigate among smaller stocks in some foreign markets. “In certain markets, there’s really not much liquidity,” says Allan Nichols, senior equity analyst at Morningstar. That’s particularly true in some emerging markets. In Europe and Hong Kong, however, he says “there’s plenty of liquidity in small- or mid-caps.”
Nichols notes that investors face other roadblocks in investing in smaller foreign stocks. While disclosure is fairly good in Europe, in Asia it can vary. And then there’s the question of language: “Some of these companies may only report in their local language,” says Nichols. But an increasing number of foreign company websites make the effort to translate investor information into English.
Alec Young notes another plus to smaller foreign equities: They are not as skewed to financials and commodity-based industries as are many overseas giants. That makes it somewhat easier to balance sector allocations in portfolios.
Global small- and mid-cap equities are more volatile than their larger counterparts, but they do offer potentially greater rewards for investors. While clients nearing retirement may want to rely more heavily on large-cap non-U.S. stocks, younger or more aggressive investors can increase weightings to small- and mid-cap issues.
“You have to know your clients,” says Nichols.