Investors seeking to expand their portfolios beyond U.S. markets may look to international exchange traded funds.
When deciding to allocate toward overseas markets, investors can look to the FTSE Global All Cap Index as a guide. Alex Bryan, an analyst covering equity strategies at Morningstar, points out that U.S. markets make up 53% of the world’s investable market capitalization, along with 40% developed international markets and 7% emerging markets.
Investors who want an all-in-one investment option can take a look at the Vanguard Total World Stock ETF (NYSEArca: VT), which tracks the FTSE Global All Cap Index.
On the other hand, people can also take a more hands on approach by retaining control over regional allocations.
“This approach allows investors to maintain a more consistent level of portfolio risk (as stocks in each region have different risk characteristics) and rebalance opportunistically to take advantage of attractive valuations,” Bryan said.
For developed market exposure, the iShares MSCI EAFE ETF (NYSEArca: EFA) and Vanguard FTSE Developed Markets ETF (NYSEArca: VEA) target developed Europe, Australia and Asian economies.
However, when accessing overseas markets, investors will be exposed to currency risks – a strengthening U.S. dollar or weakening foreign currency diminishes international equity returns.
Alternatively, investors may look at a number of currency-hedged international ETF options to capture foreign exposure while hedging currency risks. For instance, the Deutsche X-trackers MSCI EAFE Hedged Equity ETF (NYSEArca: DBEF) and iShares Currency Hedged MSCI EAFE ETF (NYSEArca: HEFA).track and hedges currency risk of Europe, Australasia and Far East countries.
For emerging market exposure, the Vanguard FTSE Emerging Markets ETF (NYSEArca: VWO) tracks the FTSE Emerging Index and the iShares MSCI Emerging Markets ETF (NYSEArca: EEM) follows the MSCI Emerging Markets Index. Additionally, the iShares Currency Hedged MSCI Emerging Markets ETF (NYSEArca: HEEM) and the Deutsche X-trackers MSCI Emerging Markets Hedged Equity Fund (NYSEArca: DBEM) track the developing markets while hedging against depreciating overseas currencies.
However, potential investors should be aware of the trade offs with these types of funds. ETFs that track alternative indices and international markets tend to have higher expense ratios. Additionally, since these currency-hedged ETFs utilize monthly options contracts to hedge currency risks, they will roll contracts to maintain the hedge, which can trigger taxable capital gains or issue capital gains distributions to investors.
Furthermore, given the elevated global volatility, investors may also consider a low-volatility ETF option. For instance, the iShares MSCI EAFE Minimum Volatility ETF (NYSEArca: EFAV) tracks EAFE country stocks that exhibit low volatility and iShares MSCI Emerging Markets Minimum Volatility ETF (NYSEArca: EEMV) targets developing countries. EFAV and EEMV have both exhibited reductions in volatility relative to their parent benchmarks.
Max Chen contributed to this article.