Going global is the key to stabilising investment return streams, says Ken Fisher.
Who needs foreign? You, probably. Maybe you know non-UK equities as a category shouldn’t be inherently more or less risky than UK equities and, long term, should net pretty similar returns. So if they aren’t more or less risky, and long-term returns are likely to be similar, why bother? Two reasons:
1. Risk management
2. Return opportunities
Yes, in the very long term, UK and non-UK equities should have very similar returns (and actually have had throughout well-measured history).
But for many years at a crack – maybe three to five, but sometimes more and sometimes less – one category can best the other, just as is the case with other categories such as growth versus value, large cap versus small cap, or tech versus energy.
Figure 1 shows MSCI UK performance divided by the MSCI World-ex UK index. When the line is rising, UK equities are overall outperforming non-UK. When the line is falling, non-UK equities are outperforming.
You intuitively see relative performance ebbs and flows over time, almost exactly equaling each other. But for years at a time, they don’t.
Figure 1: MSCI UK vs. MSCI World-ex UK, 24-moth rolling periods. Source: FactSet, MSCI UK gross of dividends, MSCI World-ex UK gross of dividends 31/12/1989 to 31/12/2016.
Since 1990, UK and non-UK equities have traded leadership irregularly for irregular periods. Sometimes UK equities outperform. And sometimes non-UK is the winner.
But over long periods, you tend to end up in the about same place – remember, since 1990 UK and non-UK equities have both annualised 6.6 per cent!1 And don’t take this graph to mean they wildly flip-flop! No – they tend to go the same direction overall, but one might be up or down a bit more or less than the other.
So you might have felt great during the late 1990s with an all-UK portfolio, but really missed out in the early-mid 1990s and the last four years. And whilst you may have an opinion, which is fine, there’s no certain way to know which category will lead going forward or for how long.
Hypothesis: if non-UK equities aren’t inherently riskier, and you tend to get similar returns over long periods, with multi-year periods of leadership and laggardness, why miss out when one or the other is outperforming? Owning both stabilises your return stream over the long term.
There are other performance opportunities that investors miss when ignoring non-UK investments. By investing globally, you have the whole wide world to choose from – a bigger choice set. If, through analysis, you develop the conviction that non-UK is likelier to outperform the UK, you can overweight non-UK.
Don’t go the whole hog and purge the UK, but if you’re right and non-UK does better, you’ll get a performance boost! If you’re wrong and foreign lags the UK, you’re not hurt too badly because you’re still holding some UK equities. And you can make the same portfolio tweaks for narrower categories – sectors, single nations, even size and style.
The bottom line is that if you invest globally, you have more choices and chances to make portfolio tweaks that, if you’re right, can enhance performance. The best part is that you needn’t be right all the time – just right more than wrong. That’s the performance-enhancing side.
Opportunities to manage risk
Investing globally means more risk management opportunities too. The very fundamental nature of modern portfolio theory says diversification – the blending of categories with differing correlations (things that zig when others zag) – lowers total portfolio volatility risk. And – if you do it right – the more broadly you diversify, the more benefit you get.
Why? The more broadly you invest, the more you diversify away sector, size, style and single-country risk. Can you still experience downside volatility? Of course! Tons of it! No equity index in the universe (should we have a universal index one day) can diversify away market risk. But it can smooth the bumps a bit and be more of a cushion than a narrower index: finance theory says so.
So don’t give away chances to enhance performance and manage risk. It’s so easy - just be global.
1 FactSet, MSCI UK total return gross of dividends annualised from 12/31/1989 to 31/12/16; MSCI World-ex UK total return gross of dividends annualised from 12/31/1989 to 31/12/2016.
Ken Fisher is founder and chairman of Fisher Investments.