GLOBAL DIVERSIFICATION CAN REDUCE PORTFOLIO RISK!

As is often the case, during the Global Financial Melt-Down, which began in 2008, excess global cash flowed to the US Dollar.  The dollar is widely perceived as the strongest reserve currency, and the US Economy as, by far, the most liquid.  Some cash did flow to other reserve currencies—the Euro, Pound Sterling and Yen–as well. But, when it comes to significant market swings, the US is the only economy that can accommodate large currency movements, both on the in-flow and the out-flow.

In the intervening eight years, since the Recovery began, a large portion of that flight money has recently been transferring–both to other currencies, and other markets. In this blog post, I would like to suggest a somewhat simplified process for investors to add one more element of diversification to their investment portfolios—global investing.

Regardless of where you live, most people have their money primarily invested in their home country.  They are more familiar with the companies, and to negate any concern for foreign exchange risk.  But, it is worth noting that the European and U. S. economies each have only 25% of the world GDP.  So, by diversifying the geographical range of securities, the overall investment risk can be reduced.

There has been a huge shift of investment transactions, at least in the U. S., out of actively-managed securities, and into either exchange-traded funds or indexed mutual funds.  Some $1 Trillion has been added, mostly to ETFs, over the pst year alone.

Since ETFs are based on indices that rarely change, the expenses are quite minimal.  Also, a number of economists have demonstrated that the stock markets are quite  irrational.  So, why pay to beat the markets when few managers do so, at least not on a consistent basis.

Diversification is one of the most basic concepts of portfolio investing.  Distribute the risk among different types of securities:  stocks and bonds; large companies versus small; both dynamic “Growth” as well as more stable “Value” companies; and invest in securities in, at least, several different industries.  Global investing just adds one more dimension in the overall diversification process.

Although I have readers from a number of different countries, the overwhelming number are from America.  Since ETFs are available on the stock markets of many nations, foreign readers may modify these idea, as you wish.  My basic approach is still to suggest adding that global dimension to your existing portfolio.  Also, even though you might only care to expand your focus, say to your local region, the benefits will still ensue.

I would first consider some type of global developed markets ETF, such as one that replicates the EAFE (Europe, Australia and the Far East) Index (Symbol: EFA).  I have also added a Pacific-excluding Japan Index (EPP), since that is the fastest growing region of the world.  And then, I have added a Diversified Developing Markets ETF (EEM).  You might prefer different ETFs for these ideas, prefer to add more to Europe or Latin America, or individual countries.

To research for yourself, and I hope that you do, I would suggest two web sites as places to start.   Obviously, there are many more ETFs and many more web sites. Those two sites are: iShares, by BlackRock, and Stock-Encyclopedia, which provides a wealth of knowledge on exchange-traded funds. Whatever you do, be sure to check the “Fact Sheet”, which provides a good summary, and get used to checking the ones that you do invest in, on a regular basis.

 

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