Investors seeking to diversify their international portfolios should also consider small-cap exchange traded fund options.
For instance, the Vanguard FTSE All World ex-US Small-Cap ETF (NYSEArca: VSS) tracks the FTSE Global Small-Cap ex-US Index, which provides exposure to 3,241 small-cap global companies taken from 43 countries.
“The main reason to own international small caps is diversification,” according to Patricia Oey for Morningstar.
Since many large-cap international companies would compete with U.S. multinationals, investors may gain a more focused exposure to global markets through international small-caps that generate a grater share of revenue in their respective markets.
“As a result, a portfolio of international small caps has historically offered more diversification benefits, relative to a portfolio of international large caps, for a U.S.-based investor,” Oey added.
Looking at international small-caps’ risk profile, smaller companies are not much more volatile than their larger counterparts. For instance, the standard deviation for the FTSE Global Small Cap ex-US Index was 17.6% over the trailing five years, whereas the FTSE All World ex US Index showed a standard deviation of 16.6%.
However, potential investors should be aware that VSS does not hedge currency risks. Consequently, if foreign currencies continue to depreciate against the U.S. dollar, the international ETF’s USD-denominated returns may be lower.
Additionally, VSS includes a larger-than-average 12% emerging market position, whereas other small- and mid-cap blend funds typically show a 2% allocation toward developing economies. VSS also holds a greater tilt toward Canada at 12%, Taiwan 7% and Japan 15% than the category average.
The FTSE Indexing methodology slightly differs from the MSCI methodology in that VSS tracks companies that fall in 91% and 98% by market cap, whereas the MSCI ACWI ex US Small-Cap Index tracks companies that fall between 86% and 99% by market cap. Moreover, FTSE overweights Canada and Taiwan while MSCI overweights Japan.
Vanguard FTSE All World ex-US Small-Cap ETF
For more information on global markets, visit our global ETFs category.
Max Chen contributed to this article.
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.