Many investors suffer what is called ‘home bias’ which can limit their investment success, explains Andrew Craig, founder of Plain English Finance.
When the result of the Brexit vote was announced at the end of June 2016 there was an expectation in many quarters that the UK economy and financial markets would plummet in the months that followed. With headlines like '£120 billion wiped off shares in a day' that expectation was perhaps unsurprising, but other commentators were a little less hyperbolic. As the fund manager, Neil Woodford remarked at the time: 'In the longer term, it is my view that the trajectory of the UK economy, and more importantly the world economy, will not be influenced significantly by today’s outcome…' I myself wrote a piece entitled 'We have nothing to fear but fear itself…'
Such commentators seem to have been vindicated thus far. A year on, the FTSE has surged nearly 1,500 points to not far off 7,500, benefiting from the fact that many of its largest constituent companies make the majority of their earnings overseas, but even the FTSE 250 and Small Cap indices, which are far less international than the FTSE 100, have rewarded patient and committed investors with similar performance. UK indices are up by 20-25 per cent overall – which has more than made up for the fall in the value of sterling of more like 10-15 per cent.
I would contend that what has driven this has little to do with Brexit or the so-called ‘Trump Pump / Bump’, and far more to do with a constellation of other factors, most important of which have been the continued march of technology and the prevalence of low or non existent interest rates across much of the world. Zero Interest Rate Policies (ZIRP) imply much higher sustainable equity valuations. Both of these factors, in turn, have driven truly staggering inflows into passive ETFs on equity markets - supercharging equity performance. It is also worth noting that despite the phenomenal performance of stock markets that have come as a result, none of the major stock market indices has yet gone parabolic as usually happens before a bear reversal.
The real Brexit winners
What these factors also mean is that the real winners of the last year (and indeed over the last 100 years or more) are portfolios that are well diversified across asset classes and geographies. The World economy as a whole has grown from $32 trillion to $85 trillion in the last fifteen and up 3.1 per cent year on year to 2017.
Warren Buffet likes to say: 'There is always a bull market somewhere' and it has never been easier, cheaper (or as a UK-resident) more tax efficient than it is today to benefit from this reality. In the past 35 years developed markets like the UK, Europe and the USA have benefited from a bond bull market and, whether you appreciate it or not, from a prolonged equities bull market. Lowering inflation, political stability and technological progress have all played significant roles in this. There is no way of knowing whether these factors are set to continue and to drive financial markets higher or whether stretched valuations will finally cause a correction. There seems to be an increase in bearish commentary.
Whatever happens, the real winners will continue to be investors who are diversified by asset and by geography. Such diversification has a multi-decade track record of generating consistent returns and reducing volatility in the process.
Investors suffer from 'home bias'
Unfortunately, most investors are not sufficiently diversified. Many suffer what is called ‘home bias’, preferring to invest disproportionately in assets from their own country. This increases the risk of long term underperformance. Brexit provides us with an example as to why this isn’t ideal: The stellar performance of the UK stock market since Brexit notwithstanding, anyone with 100 per cent exposure to UK bonds, UK gilts and sterling at present could well suffer in the months and years ahead if the UK’s divorce from the EU turns messy.
In contrast, those investors who are diversified across asset class and geography will not need to worry. Happily for them it has never been easier or cheaper to invest like this...