International Funds Aren’t All the Same
As part of a well diversified portfolio, we feel most investors should have some exposure to international funds. There are several different types of international funds to select from. From my experience talking to investors, it appears many are unsure of the differences between the different types of international funds. For example, if I asked my family or friends, whom I would consider similar to the average investor, to tell me what the differences between a world stock fund, foreign fund and emerging market funds are, they would be hard pressed to do so. Yes, they are all international funds, but each has an entirely different investment strategy. Today I hope to help you (and hopefully my friends and family) understand the differences between these types of international funds.
Foreign Funds: These funds have the ability to invest in companies from across the globe and will have little to no U.S. exposure. The fund manager is basically given free reign to select any company from across the globe (minus the U.S.) that fits his or her fund’s investment strategy. This gives the fund manager a great deal of flexibility, which typically results in greater diversification than the other international funds. Just as domestic funds, foreign funds are categorized by the size and type of companies they invest in. For example, you will often see foreign funds labeled as large value, large growth, small/mid cap value, etc. As expected, investing in foreign funds that invest in smaller companies will have a higher risk level than one that invests in larger companies. Since foreign funds offer greater diversification and don’t typically include U.S. companies in their portfolio, we like to recommend them for our clients.
World Stock Funds: What sets world stock funds, also known as global funds, apart from other international funds is the fact that they will invest in stocks or bonds throughout the world, including the U.S. The confusion comes from the fact that when we think of an international fund, we think of one investing solely in foreign based companies. Since a world stock fund can invest in any company from any part of the world, it’s very important to understand where their investments lie. For example, Third Avenue Value Fund (TAVFX) and Janus Worldwide (JAWWX), two funds with world or global focuses, have dramatically different levels of exposure to international equity. The Third Avenue Fund has 58% of its portfolio in foreign stocks while Janus Worldwide (JAWWX) has 58% in domestic stocks and reinforces the importance of knowing what’s in the fund. Based off these figures, I would not consider either of these a true international fund.
Emerging Markets Funds: By definition, an emerging market fund is a mutual fund that invests primarily in a single developing country or a group of developing countries. For the most part, these countries are in Eastern Europe, Africa, the Middle East, Latin America, the Far East and Asia. Typically the developing country is characterized as being vulnerable to political and economic instability, having low average per-capita incomes, and of being in the process of building its industrial and commercial base. Emerging market funds are very volatile because of all this instability, and if you are considering one for your plan, it should only make up a tiny fraction of your account (possibly as a compliment to another international fund.) It is very important that you understand the risk associated with an emerging market fund and are willing and able to handle potentially large swings in the value of your account. An emerging market fund is not for everyone.
Regional or Country specific funds: As the names imply, these funds will concentrate their holdings to one area of the world. Since these types have a concentrated holding, the risk associated with them is greater. Region and country specific funds allow you to control your international exposure and where you want to invest; however, it will also require substantially more work to diversify your investments across all international regions. If you see yourself as a savvy investor with time to put in the research, these types of international funds might be for you since you can control what regions you’re invested in. However, if you don’t have the time to put in for the research or have any doubt what so ever in your selections, we would not recommend going this route.
With any type of fund, there is always risk associated with it. Typically, international funds have a greater level of risk associated with them. However, for most investors a well diversified portfolio will include a small amount of exposure to international funds. It is very important to understand the different types of international funds for your selection process and I hope I have shed some light on the topic. Now my Dad better not have an excuse when I ask what the differences are next week. As always, if you have any questions, please feel free to call us at, 1-877-627-8401.
Jeff Studebaker, Investment Advisor
