Fixed-income investors may look to international markets to diversify their bond exchange traded fund portfolios, but people should be aware of the negative effects of foreign exchange fluctuations and keep in mind potential strategies to diminish the currency risks.
On the recent webcast (available on-demand), Diversifying Client Income with Currency Hedged Bonds, Abby Woodham, ETF Strategist at Deutsche Asset Management, argued that bond investors may be missing out when focusing on U.S. debt as international bonds make up almost 60% of assets in the investment-grade global bond market.
Matthew J. Krajna, Portfolio Manager at Nottingham Advisors, contended that investors should get out of their “home country bias” as the U.S. only makes up a portion of the global market.
In a survey of financial advisors on the webcast, 47% of respondents revealed that 10% of their fixed-income portfolio is made up of international debt, followed by 41% who had about up to 20% in foreign bonds.
Investors may be missing out on the potential diversification benefits as international bonds have shown a low correlation to U.S. stocks and bonds. Specifically, international Treasury bonds have exhibited a 0.87 correlation to the U.S. Aggregate Bond Index and -0.13 correlation to the S&P 500. International investment-grade bonds have also traded at a 0.67 correlation to the U.S. Aggregate Bond Index and a 0.32 correlation to the S&P 500.
International bonds can help investors diversify sources of interest rate risk. While U.S. rates have plunged to three-decade lows and recently hit all-time lows earlier this year, investors may turn to international bonds for positive returns.