As shown in Figure 4, outperformance is not invariable, as there have been certain periods when the equal-country-weight index has underperformed the cap-weighted index.

4

Conclusion

We argue in this paper that portfolio diversification is beneficial for investors, and show that augmenting portfolio diversification through both expanded representation and enhance weighting of equity markets further increases the expected returns of model portfolios.

Dr. Vito Sciaraffia is the Co-Chief Investment Officer at Innealta Capital, a participant in the ETF Strategist Channel.

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The information provided comes from independent sources believed reliable, but accuracy is not guaranteed and has not been independently verified. The security information, portfolio management and tactical decision process are opinions of Innealta Capital (Innealta), a division of AFAM Capital, Inc. and the performance results of such recommendations are subject to risks and uncertainties. Past performance is not a guarantee of future results, and diversification does not protect against loss in declining markets.

Using index market capitalization data provided by MSCI via FactSet Research Systems we created an equal-country-weight version of the MSCI All Country World ex. U.S. Gross USD Index. The MSCI All Country World Index (ACWI) has a longer history than the ACWX, so we first gathered the dates of membership for the various countries MSCI has included and excluded from the ACWI over the years. We then removed the United States from the group and recalculated index weights using month-end data for market capitalization, making some exceptions for certain total return series that were not available at the time of publication. In turn, we constructed a monthly time series of total returns for the cap-weighted international equity index, using the gross USD returns of the underlying country equity markets. We used the gross returns as, at the time of publication, they were the fullest set of data we could assemble. This approach results in a time series of total returns that broadly matches that of the ACWX.

To present one approach for remapping country market weights within the index, we next recalculated country-member weights so that they would be equal at each month end (which presumes a monthly rebalancing of the index). Therefore, at the end of 1996, each of the 44 member countries received a 2.27% weight in the equal weight index, while we assign a 2.22% weight to each of the 45 country equity markets presently represented in the index. We then constructed a monthly time series of total returns for the equal-country-weight index.

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