Our firm specializes in investment management for US expatriates, many of whom are concerned with diversifying their investment portfolio internationally and managing currency risk. Our accounts are multi-currency and we have access to investment markets around the world. I’ve noticed that there are some common misunderstandings regarding international investing, as well as a lack of information regarding costs and other issues with respect to such investments. Probably the most common misunderstanding is related to the location of the investment account and the currency in which it is denominated. The question usually goes something like this:I have an investment account in the USA that is denominated in US Dollars but I want to invest in other countries and currencies – do I need to open an offshore account, or an account in these other countries to do so?
The short answer to this is “not necessarily”. Even if the US account is denominated in US Dollars, it is the nature of the investments within the account that is of importance. Some brokerage platforms allow direct access to investment markets around the world so it is possible to buy local-currency denominated equities or other securities directly on these exchanges. However, there are also pooled investments such as exchange-traded or mutual funds, and Depositary Receipts or cross-listed securities that are listed on US exchanges in US Dollars but hold or represent securities in other countries and therefore have the currency and investment characteristics of these other countries.
As an example, let’s say we buy an exchange-traded fund on a US exchange that represents the British FTSE 100 index. This fund will be quoted in US Dollars but the underlying investments are British equities and therefore the value of the fund will vary with changes in US/UK currency rates as well as with changes in the value of the underlying equity share prices. Similarly, one can buy a cross-listed share on the New York Stock Exchange, let’s say “Royal Bank of Canada”, ticker=RY. The quote for this security is in US Dollars but the share price will go up and down with the US/Canada exchange rate and the dividends, paid in USD, will also change depending on the exchange rate. This is because the value of the cross-listed share is based on the “home” country shares listed in Canada.
International investing involves exposure to not only the characteristics of the securities but also to the currency in which they are denominated. There are, however, mutual funds and ETFs that offer exposure to international markets without the currency effects. For example, if one has the view that the US Dollar might strengthen versus the Euro but that European shares offer good value, then a European ETF that is hedged to the US Dollar can be purchased.
While it is possible to diversify a portfolio internationally using securities held only on a US exchange, there are many non-US securities that cannot be purchased on US exchanges. Thirty years ago US securities represented about 70% of the investible universe, now they represent less than half. Non-US shares often offer higher dividends and greater value from a price/earnings perspective as well as currency and geographic diversification, so having access to markets around the world is important for the global investor.
There are issues that need to be considered when investing internationally:
For example, many investors use country ETFs (exchange-traded funds) to buy a broad basket of securities representing shares in a certain country. It is important to understand the composition of the index because some country indices are heavily weighted to a particular company or sector. For example: The Taiwan index is composed 25% of one company, Taiwan Semiconductor, and is weighted almost 60% to technology; the Australia index is composed of over 40% financials; and the Russian index is allocated about 50% to the energy sector. When investing in such country ETFs it is important to remember that there will be volatility associated with the currency as well as that associated with a relatively concentrated position.
Another consideration is the usually higher trading costs and fees associated with investing internationally, and especially in less developed markets. As an example, iShares ETFs representing the US stock market indices have expense ratios of 0.1% or less but those representing emerging market countries have expense ratios from 0.5% to 0.9%. Emerging market mutual funds can have expense ratios over 2%.
A final issue that may come up is that of liquidity. We take it for granted that, except under extreme circumstances, one can buy or sell most securities listed on the major developed market exchanges at any time and with a reasonable bid/ask spread. However, this may not be the case on thinly traded emerging or frontier market exchanges.
In summary, investing internationally offers attractive diversification options as well as access to securities that may offer higher dividends and or better value than those in the home country. Many international securities are available on major exchanges through cross-listing, representative securities such as Depositary Receipts, or funds, however, trading access to exchanges around the world opens up much broader international investment opportunities.
This article is for informational purposes only; it is not intended to offer advice or guidance on legal, tax, or investment matters. Such advice can be given only with full understanding of a person’s specific situation.