Investment recommendation: Neutrality to U.S., slight overweight to international

Wade Balliet
Posted by Wade Balliet
Investment Strategy

At Bank of the West, our Investment Advisory & Management team (IA&M) currently believes that Bank of the West clients should consider revisiting their equity allocation and, if appropriate, look to rotate toward neutrality to U.S. holdings and a slight overweight to international asset classes

closeup on a pen (in human hand) tracing a pie graph on an investment statement.Further, we believe clients could explore the use of a diversified mix of international asset classes to round out equity portfolios. This is, in part, due to a global growth forecast of 3.7% by the International Monetary Fund (IMF), which is set to outpace U.S. growth this year. As you can probably tell, the IMF is predicting that many international markets may grow faster, but are also further back in the recovery than the U.S., which means future growth potential of economies and earnings could drive higher equity returns for globally diversified investors.

Realizing better risk-adjusted returns

While our allocation recommendations are based on 2014 economic projections, there is evidence to suggest that investors could utilize global diversification as an investment strategy.

In a global economy, an event in one region can create diverse economic reactions and trends that do not correlate across all regions. This is why global assets can serve to increase returns and reduce risk across various economic environments. In fact, when compared to a domestic-only strategy, a portfolio with global holdings can , over time, earn a higher return for the same level of risk and/or produce less risk for the same level of return.

For example, since 2000, more than half of global GDP growth was driven by emerging markets, led by Brazil, China, India, and Russia, called the BRIC economies, which produced double-digit growth rates. Investors who were positioned in these emerging counties — as well as other countries — were rewarded over those who were exclusively in U.S. equities or only invested in advanced countries.

Further, in a Gerstein Fisher study, a globally diversified portfolio outperformed a U.S.-only portfolio in 96% of rolling three-year periods, with a total outperformance of 35 percentage points from 2001 to 2011.

Although past performance does not guarantee future results, this suggests that investors should assess their diversification strategies and, where appropriate, adjust their allocations to help to achieve a more optimal level of non-domiciled holdings, while looking for investments that will provide low correlations with their domestic holdings.

Aligning portfolio allocation with market capitalization

Currently, U.S. equities comprise approximately 49% of the global market, so investors may consider having 49% of their portfolio in U.S. equities and 51% in non-U.S. equities. However, looking at short-term performance in the past decade, there are periods of time where allocating 20% of an equity portfolio to non-U.S. stocks would have captured about 85% of the maximum possible benefit. Again, past performance does not guarantee future results.

Despite the evidence supporting global diversification, studies show that few investors would be comfortable with having 51% of their portfolios invested in non-U.S. equities due to a range of factors, often described as a “home bias.”

For example, according to a 2014 report from Vanguard titled “Global Equities: Balancing Home Bias and Diversification,” U.S. investors maintained an allocation to U.S. stocks that was approximately 1.7x the market cap of U.S. stocks. This suggests a significant overweight in U.S. assets as well as an opportunity to evaluate the potential to add global assets to a portfolio as a core investment strategy.

The opinions and recommendations presented are the views of the Investment Management and Trust Division of the Bank of the West Wealth Management Group. All investments involve risk. Investors should seek the advice of a financial professional regarding the appropriateness of any securities or strategies discussed. Foreign securities, involve additional risks including exchange rate fluctuations, social and political instability, less liquidity, greater volatility and less regulation.

Economic and market forecasts reflect subjective judgments and assumptions, and unexpected events may occur. Past performance is no guarantee of future results.

Reminder: All comments are moderated prior to publication and must follow our Community Guidelines.

  • Anonymous says:

    Good article. Investing in U.S. large caps also has an international flavor considering the international presence of these companies. Caterpillar, for example

    Reply | 5 years ago

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