Thursday, February 07, 2008

International Diversification

Evidence continues to support the value of international equity investing, despite higher correlations due to globalization and the integration of the global financial products markets. However, January 08 returns (US -Russell 3000 -6.1%, MSCI World ex US -9%) tend to confirm that, in market downturns, when investors want the benefits of covariance the most, markets become highly correlated.

A Wharton School study on international diversification suggests" the average small-investor portfolio has 10% to 12% of its equity investments committed to foreign stocks". This might underestimate investors international exposure by the significant foreign equity allocations that many funds, categorized as US equity funds, have made on behalf of their shareholders. It also may not account for the surge of cashflows into international funds in 2007. Of an aggregate $950B in 2007 flows, a net $200b was in international vs. a net -$.60B in US equity. $600b went into money market funds.

Regardless of the statistics, the fundamental intuition behind the value of international investing is that investors gain by effectively doubling their investment opportunity set.


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