Today, I'm going to talk about adding international stocks to your retirement portfolio.
When you retire, there is a high probability that your retirement portfolio may only be in US-based stocks or mutual funds. The average U.S. investor allocates roughly 80% of their equity portfolio to their home market, even though domestic stocks make up just over half of the global index.
While stocks and bonds from the United States may offer profitable opportunities, some of the best opportunities lie in stocks outside of your home country.
Here, we look at what international stocks are and how to start making your retirement portfolio global.
What You Will Learn:
- Why Invest In International Stocks
- Potential Problems With International Stocks
- Types Of International Markets
- How To Invest In International Stocks
- Adding International Stocks To Your Retirement Portfolio
WHY INVEST IN INTERNATIONAL STOCKS?
You may be wondering why you should add international stocks to your retirement portfolio. Well, there are several reasons to invest whether you are looking for outperformance or safety. Here are four compelling reasons to consider international stocks:
1). Better portfolio diversification
When you invest in international stocks, you allow for greater diversification in your portfolio. For instance, if there is a bear market in the United States, you may find a bull market in Germany or China. By having exposure to stocks from multiple countries, you increase your chances of finding performance even if your home country is lagging.
2). Ability to profit in emerging markets
You can find some of the best gains in emerging markets. For instance, the Chinese stock market in the 1990s saw some incredible gains. Right now, countries such as Brazil, India, China, and Russia are offering some exceptional returns. Today’s emerging markets will become tomorrow's developed markets.
By investing now, you have the ability to capture some potential higher expected returns.
3). Currency diversification
Stocks can be affected by the currency of a country. Therefore, you want your portfolio exposed to several different countries operating under different currencies. For instance, if you invest in a country with a weakening currency, residents of those countries may want to purchase local stocks to protect their purchasing power.
Owning these international stocks can give you some exceptional returns.
4). More investment choices
Finally, investing in international stocks can give you more choices. For instance, you can invest in utility companies in Europe that can offer you some incredible dividends. You can also invest in companies that are serving massive markets such as India and China.
You will be surprised by how many opportunities you can find when you invest internationally.
POTENTIAL PROBLEMS WTH INTERNATIONAL
While investing internationally can offer you some incredible opportunities, I need to address the downsides. By knowing the benefits and the risks, you can be prepared to make a smarter investment decision.
1). Political risks
If you live in the United States, Canada, the UK, or Australia, then you are used to some level of political stability. However, emerging markets can have situations that can lead to instability in an international market such as:
- Collapsing currency
- Political upheaval
- Domestic terror attacks
- Natural Disasters
- Nationalization of company
2). Opaque financial disclosures
Investing in some markets may make it harder to get full disclosures on a company's financial performance. Also, you may not gather information on the company's senior officers. Because of that, you need to work harder to understand every aspect of a foreign company before you decide to invest in their stock.
3). Currency volatility
Investing internationally can also mean dealing with currency volatility. While a collapsing currency can propel the price of a stock higher, you could find issues that can create unexpected problems with your investment. Therefore, you may want to study a country's currency before investing.
4). Potentially less liquidity
You may not enjoy the liquidity that you get from investing in companies in developed markets. This can be an issue if you are looking to sell large blocks of foreign stock. Before putting in a big position on an international stock, be sure that the liquidity is there to get out of your position quickly.
Image source: Vanguard (https://www.vanguard.com/pdf/ISGGEB.pdf)
In addition to the risks discussed herein, please note that asset allocation and diversification strategies do not assure a profit or protect against loss. Investors should be prepared to bear investment loss, including total loss of principal.
TYPES OF INTERNATIONAL MARKETS
While there are hundreds of different countries, there are typically three categories or markets that these countries fall into. You should be familiar with these three markets since they each create their own set of risks and potential rewards.
1). Developed markets
Developed markets are the largest and most stable markets on the globe. The developed markets usually consist of countries that have currency, governments, and transparent financial disclosures. If you are looking to play it safe, then you will want to stick with developed markets. Here are some of the countries that are a part of developed markets:
- United States
- United Kingdom
2). Emerging markets
Emerging markets are countries that have a developed economy but are not as stable as a developed market. Many investors are attracted to emerging markets because of their high growth and potential for outperformance versus developed markets. With emerging markets, you will deal with some level of risk. Here are some of the countries that are a part of the emerging market:
3). Frontier markets
Frontier markets are the least developed countries in the world. While these countries carry the greatest risks, they also have the greatest reward. Frontier markets usually look to establish their infrastructure, which makes them an attractive investment opportunity for speculators. Here are some countries that are a part of the frontier market:
- Sri Lanka
HOW TO INVEST IN INTERNATIONAL STOCKS?
There are several ways that you can invest in international stocks. Here's a look at three ways you can start to diversify your retirement portfolio with international investing today:
1). Exchange-traded funds
An exchange-traded fund or an ETF collects a basket of companies you can buy or sell in one trade. Currently, there are dozens of ETFs that allow you to invest in various international countries or regions. With an ETF, you can trade-in and out of the investment, much like a stock.
2). Mutual funds
You can also purchase mutual funds that offer you international exposure. With a mutual fund, you will own a basket of stocks that represent international companies.
3). American Depository Receipts (ADRs)
An American Depository Receipt or ADR is a certificate from a bank representing one share of international stock. If you are looking to buy an individual international stock, you will be purchasing an ADR. You can find many familiar international company names traded as ADRs.
Image source: RBC (https://www6.royalbank.com/en/di/hubs/investing-academy/article/home-country-bias/jy4l8s2k)
ADDING INTERNATIONAL STOCKS TO YOUR RETIREMENT PORTFOLIO
By diversifying your retirement portfolio with international stocks, you can expect to receive a potential higher rate of return while at the same time reducing your potential portfolio risk.
Demographics suggest that structural changes are occurring in other parts of the world which will result in the broadening of technological and business frontiers well beyond our backyard.
We suggest investing anywhere from 10% to 20% of your retirement portfolio in international stocks.
If you want to know more about adding international stocks to your retirement portfolio, be sure to consult with a financial planner. With the right allocation, international stocks can play a big role in your overall wealth-building goals.