Global investing: should you target specific regions to achieve better returns?
This content is for information purposes only and should not be taken as financial advice. Every effort has been made to ensure the information is correct and up-to-date at the time of writing. For personalised and regulated advice regarding your situation, please consult an independent financial adviser here at Castlegate in Grantham, Lincoln or other local offices.
It has never been easier to invest on a global scale. Trading platforms and research tools are available to anyone, and many overseas companies are now household names. More investors are now seeing the benefits of investing globally, although home bias still persists. In this guide, we look at the reasons for this, as well as the case for global investing and how to choose the regions to invest in.
Home Bias Explained
If you break down the asset allocation of a typical multi-asset fund, there is a good chance that it will invest significant amounts in UK Equities. Many UK funds hold more in the UK than in any other region, regardless of the size of the economy or opportunities available elsewhere. A share trading portfolio could be comprised almost entirely of UK equities, partly due to the challenges (real or perceived) of researching and buying overseas shares.
This can be explained by ‘home bias.’ It is a natural tendency of investors to favour their home country when selecting stocks. There are multiple reasons for this, for example:
- A greater familiarity with UK companies.
- A lack of understanding of foreign markets and a perception that they carry more risk.
- Optimism and a sense of pride in UK business
UK equities account for just over 5% of the world economy by market share. However, it is not unusual to see a fund or portfolio holding 20% – 30% of its equity content in the UK. The issue is not a concern about the UK economy, but rather that in the context of the world market, a home biased portfolio will always be unbalanced. It therefore makes sense to consider investing globally, as this spreads the risk and allows a portfolio to take advantage of opportunities throughout the world.
What Can Go Wrong?
Of course, this opens up decisions over where to invest. Is it better to target established, tech-heavy economies such as the USA? Or are there more opportunities in the up and coming Asian markets?
Some of the risks involved in global investing are:
- Currency fluctuations – this will impact the value of any investments when converted back to Sterling.
- Changing legislation – this can be extremely difficult to predict and track on a global scale.
- Political instability – while we might associate this with emerging markets, recent history has shown that the US and UK are not immune.
- Unpredictability – conviction in a particular region could go either way. The higher the potential reward, the higher the risk.
Biases can easily creep in again as we weigh up the facts, along with our perceptions of different markets. An investor could have some success, for example, by investing in Chinese companies. This can lead to investing more in this market, downplaying any less successful choices, and ignoring opportunities elsewhere. So how can we devise a global investment strategy while avoiding biases?
Global Investment Allocation
The world economy is made up of different companies, which all have a share of the global market. This market capitalisation can be split as follows by region:
- US – 54.5%
- Japan – 7.7%
- UK – 5.1%
- China – 4%
- France – 3.2%
- Switzerland – 2.7%
- Canada – 2.7%
- Germany – 2.6%
- Australia – 2.2%
- Everything else – 15.2%
The US economy accounts for more than half of the global market by equity share. The idea of investing more than half of your investment portfolio in one country can be daunting. But many of the companies making up their market share are global players such as Amazon, Apple, Microsoft, and Alphabet (Google). These companies have risen to success not because they originated in the US, but because they have grown on an international scale. The value is therefore in the company rather than the region itself.
Similarly, Japan’s economy has been extremely successful relative to its size, with car manufacturing and technology leading the way.
Investing by market share is one way to benefit from global growth while reducing reliance on personal judgement. The benefits of this are:
- The portfolio will capture the market growth of the world’s largest companies.
- Market share will naturally tilt towards successful businesses, regardless of where they are based in the world.
- The portfolio will be less susceptible to bias and investor sentiment.
- The investor does not need to worry about timing the market, allocating funds between regions or how world events could impact different economies.
Diversification and Controlling Risk
The key to a successful investment strategy is diversification. This means holding a wide variety of investments across different asset classes, regions and business sectors. The advantages of this are:
- Investments do not all behave in the same way at the same time. When one falls, others can rise.
- A broad asset allocation means reducing risk, as your funds are not over-exposed to one area.
We cannot predict world events or how these will impact investments. Rather than aiming to avoid fluctuations, a successful investor expects them, and spreads risk accordingly. As well as diversification, the other features of a strong investment strategy are:
- Investments are made for the long-term.
- It avoids continual tweaking and reactions to news events.
- It is driven by logic and data rather than emotion.
- Risk is proportionate to the investor’s aims, tolerance, and capacity for volatility.
In conclusion, a global investment allocation is suitable for most investors, and could even help to reduce risk compared with a UK-biased portfolio. However, targeting specific regions based on judgement, perception, or bias can be counter-productive. Please do not hesitate to contact a member of the team to find out more about your investment options.
