International Investing
What Is International Investing?
International investing is the strategy of selecting and holding securities issued by companies or governments outside of an investor's domestic market.
International investing involves allocating capital to financial assets in countries other than one's own. For a US-based investor, this includes buying shares of companies in Germany, bonds issued by the Brazilian government, or a mutual fund focused on Asian technology stocks. The primary motivation is twofold: growth and diversification. The US economy, while the world's largest, represents a shrinking slice of global GDP. Rapid growth is often found in emerging markets where populations are younger and industrialization is accelerating. By investing internationally, investors can participate in this wealth creation. Simultaneously, international markets do not always move in lockstep with the US market. When the US stock market is flat or declining, markets in other regions might be rising. Holding a mix of domestic and international assets can therefore smooth out volatility and potentially improve long-term risk-adjusted returns.
Key Takeaways
- It allows investors to tap into the growth of foreign economies.
- It provides diversification benefits that can reduce overall portfolio risk.
- Methods include buying ADRs, international ETFs, mutual funds, or direct foreign stocks.
- Investors must account for currency risk, political risk, and different regulatory standards.
- Emerging markets offer higher potential returns but come with higher volatility.
How International Investing Works
There are several ways to execute an international investing strategy, ranging from simple to complex: 1. **ADRs (American Depositary Receipts):** These are certificates representing shares of a foreign stock that trade on US exchanges in US dollars. They are the easiest way for US investors to buy individual foreign companies (e.g., Alibaba, BP). 2. **ETFs and Mutual Funds:** These funds pool money to invest in a diversified portfolio of international securities. They can be broad (Global ex-US), regional (Europe), or single-country (South Korea). 3. **Direct Investing:** Opening a brokerage account that offers access to foreign exchanges (e.g., the London Stock Exchange or Tokyo Stock Exchange) to buy shares directly in the local currency. 4. **Multinational Corporations:** Buying domestic companies that derive a large percentage of their revenue from abroad (an indirect method).
Important Considerations: Risks
**Currency Risk:** If you hold a foreign asset, you are long that foreign currency. If the US dollar strengthens, the value of your foreign investment drops in dollar terms, even if the stock price didn't change. **Political and Economic Risk:** Foreign countries may have less stable governments, different economic policies, or higher risks of nationalization or civil unrest. **Regulatory Risk:** Accounting standards (like IFRS vs. GAAP) and financial transparency can vary. Some markets may have less rigorous oversight, increasing the risk of fraud. **Liquidity Risk:** Some foreign markets are smaller and less liquid, making it harder to sell assets quickly without moving the price.
Real-World Example: Portfolio Allocation
A conservative investor wants to add international exposure to their 60/40 portfolio (60% US Stocks, 40% US Bonds).
Advantages of International Investing
Access to a wider array of industries and companies. For example, while the US dominates in tech, Europe has giants in luxury goods and industrials, and Australia is strong in materials. It hedges against the long-term decline of the domestic currency. It captures the "catch-up" growth phase of developing nations.
Disadvantages of International Investing
Higher costs (transaction fees, fund expense ratios). Tax complications (foreign withholding taxes). Information disadvantage (harder to research foreign companies). Currency volatility can wipe out equity gains in the short term.
FAQs
Developed markets (e.g., US, UK, Japan, Germany) have advanced economies, stable political systems, and high per capita income. Emerging markets (e.g., China, India, Brazil, Mexico) have fast-growing economies but less mature capital markets and higher political risk.
Often, yes. Foreign governments may withhold taxes on dividends paid to you. However, the US has tax treaties with many countries to reduce this rate, and you can typically claim a Foreign Tax Credit on your US tax return to avoid double taxation.
ADRs are generally more convenient and have to meet certain SEC reporting requirements, which can offer some transparency. However, they are still subject to the underlying risks of the foreign company and the foreign economy.
Common recommendations range from 15% to 40% of the equity portion of a portfolio. The right amount depends on the investor's risk tolerance, time horizon, and belief in the future performance of the domestic vs. global economy.
Home bias is the tendency for investors to invest the majority of their portfolio in domestic equities, often ignoring the benefits of international diversification. This is usually due to familiarity and perceived lower risk.
The Bottom Line
Investors looking to maximize long-term growth and stability often turn to international investing. International investing is the practice of looking beyond domestic borders to find value and opportunity. Through exposure to foreign markets, international investing may result in enhanced diversification and access to global growth engines. On the other hand, it requires managing currency and political risks. For the modern investor, a portfolio without international exposure is increasingly seen as incomplete.
More in Investment Strategy
At a Glance
Key Takeaways
- It allows investors to tap into the growth of foreign economies.
- It provides diversification benefits that can reduce overall portfolio risk.
- Methods include buying ADRs, international ETFs, mutual funds, or direct foreign stocks.
- Investors must account for currency risk, political risk, and different regulatory standards.