As investors look to where economic growth is coming today, many are considering how international exposure cold improve the risk-adjusted return of a portfolio.
On the recent webcast, Trump and Trade Wars: How to Manage Your International Exposure, Kevin Davis, Chief Growth Officer, Vident Financial; and Jerry Bowyer, Chief Economist, Vident Financial, covered recent events around the four T’s – Trump, Tweets, Tariffs, Trade Wars – and the impact they are having on markets. Additionally, given the current market environment, the strategists argued the case for international investing, with the potential diversification benefits, favorable demographics and future growth opportunities.
For starters, international markets provide investors with diversification benefits. Global markets follow a type of market cycle, oscillating between U.S. outperforming international and vice versa. Currently, we can see that the U.S. is outperform international equities, but that is not always the case. Moreover, global investing showed a similar return to the U.S. over the long-term but with less volatility or improved risk-adjusted returns.
The U.S. is only part of the global picture, and investors may be missing out on the favorable demographics that could continue to support international growth. When it comes to favorable demographics, we need to look to the large populations in emerging Asian countries, notable China and India.
Lastly, investors should keep in mind the future growth opportunities available. When considering the global economy, the rest of the world is quickly expanding, with the U.S. economy now less than one-fourth of the global economic output. The Vident strategists underscored the increased growth of Asian economies, which could account for 63% of global growth, compared to the U.S.’s 11% expected contribution to global growth.
While the OECD may have slashed growth forecasts for 2019 due to the negative effects of a protracted trade war, the rest of the world is still expected to expand faster than the U.S. if you look at the numbers on a country-by-country basis, with China and India leading the charge. The OECD estimates 3.2% global growth, compared to the U.S.’s 2.8% expansion.
“The U.S. has been declining, Europe has been declining more, and Developing Asia has been becoming an increasingly large share of global growth,” according to Vident.
The growth story in Asia could continue to accelerate as the people exhibit a fervent drive to improve. According to the latest IMD World Competitiveness Ranking for 2019, the Asia-Pacific region emerged as a beacon for competitiveness, with 11 out of 14 economies either improving or holding their ground, led by Singapore and Hong Kong SAR at top of the global chart.
It is important to monitor international opportunities, especially as most U.S. investors have exhibited a domestic bias and are underallocated to foreign markets. U.S. investors put less than one-fourth of their money outside the U.S. The U.S. makes up 46% of the total world market capitalization, so that means investors are missing out on 54% of the global equity market. When counting the number of total listed companies, U.S. stocks only make up about 10% of global companies.
However, as more investors look to international exposure, most steer toward traditional market capitalization-weighted index funds, which may come with shortcomings. Challenges of cap weighted indices includes things like ignoring data about growth, demographics, debt, valuations and long-term returns; don’t diversify well; and don’t take principles into account.
Alternatively, Vident Financial has come out with a smart beta or factor-based index fund strategy that could help address risks associated with market-cap weighting and help investors enhance returns through international market exposure.
Specifically, the Vident International Equity Fund (NASDAQ: VIDI) tracks the Vident Core International Equity Index. VIDI’s underlying index evaluates constituent countries based on growth, sound money, political stability and value factors. The index rebalances twice a year and seeks to reduce country, currency, and company concentration risks that can sometimes be typical amongst traditional capitalization-weighted approaches.
VIDI is a well diversified international investment with access to both developed and emerging economies, regions, countries, and stocks. The ETF favors countries with lower government debt, lower government spending, higher savings and better current account balances. The underlying portfolio tilts towards countries with better demographics and higher productivity. Additionally, the fund focuses on countries at cheaper valuations and incorporates relative valuation in assessing and weighting companies within countries, seeking to acquire principles at favorable prices.