Globalize Client Portfolios for Real Diversification
How many times have you intended to achieve more optimal diversification in client portfolios?

I’m sure the answer is “it is a constant endeavor,” and rightly so. But when you think about portfolio diversification, what comes to mind?

Some might say diversification is the right mix of equities based on market cap, industry sector, and style; corporate and government debt; and maybe some commodities and alternatives. This is put together as part of a strategy to help spread portfolio risk, generate positive returns, and achieve each client’s specific goals. However, there’s one other aspect of diversification that, unfortunately, too many investors and their advisors may overlook or downplay, and that is globalizing a portfolio.

Think about this: 76% of global GDP now comes from international markets.1 That is a lot of economic potential that might be put to use in portfolios to help reach clients’ financial objectives.

My colleague, OppenheimerFunds Vice President and Investment Strategist Talley Léger, recently published an insightful analysis that looked at whether U.S. investor portfolios have adequate exposure to international stocks. Among his findings:

  • The MSCI USA Index represents 54% of the MSCI All Country World Index. In other words, almost half of a passively indexed portfolio is made up of non-U.S. equities.
  • Investors and their advisors who may have thought a 20% allocation to international equities was generous, are actually well below the benchmark allocation.
  • Consequently, in our view, anything less than a 46% allocation to international stocks in equity portfolios represents an underweight position in global equities.

Yet the reality is quite different. A report by Cerulli Associates finds that RIAs allocated 37.3% of a moderate-risk investor’s portfolio to U.S. equities during the three-year period 2015-2017. By comparison, allocations to international equities averaged less than 13% during the same time frame.2

I understand why investors and their advisors have a preference for U.S. equities. It’s a known market they understand, they may see it as less volatile than some overseas markets, and fees may play a role in their home-country bias.

However, we believe that investors who are underweight in non-U.S. stocks are missing out on a tremendous opportunity, and should consider increasing their international equity exposure. In our view, there are many compelling reasons to do so, including:

  • Valuations are more attractive compared with U.S. equities.
  • Many international markets and economies are in earlier, better stages of their cycles.
  • Faster economic, sales, and earnings growth can be found outside the U.S.
  • Non-U.S. developed market currencies (e.g., euro, yen) have appreciated versus the U.S. dollar.
  • In many cases, core inflationary pressures are easing across the developing world and in select developed economies, such as Europe and Japan.
  • Monetary policy is generally accommodative.

But it’s not all about stocks. International debt also holds great potential for benefitting client portfolios.

The Case for Global Debt

The world’s largest asset class is international bonds. As such, they also offer investors the largest set of opportunities, including the potential to deliver higher yields, greater diversification and, when combined with a U.S. bond portfolio, a better risk-adjusted return profile than a U.S.-only bond portfolio.

While the U.S. bond market may be the world’s largest, it has not been a consistent top performer over the past 10 years. Exhibit 1

Exhibit 1: The U.S. Bond Market Doesnt Always Lead the Pack

Yet, according to the Cerulli study, RIAs allocated an average of approximately 16.7% of a moderate-risk investor’s portfolio to U.S. taxable bonds and 5.6% to municipal bonds during the three-year period 2015-2017, compared with an average of about 5% to international bonds.2

With the second half of 2018 well under way, OppenheimerFunds believes that the best opportunities for investors are to be found outside the United States. We see international and emerging market equities outperforming U.S. stocks, and emerging market debt likely offering bond investors the best risk/reward balance.

In short, there’s no time like the present to globalize your clients’ portfolios.

For more information about the potential advantages of globalizing portfolios and challenging borders, visit our interactive online experience and explore markets around the world.

For more on our views about global markets in the second half, see our 2018 Mid-Year Outlook.

 
  1. ^Source: World Bank (2016, current U.S. dollars).
  2. ^Source: U.S. RIA Marketplace 2017, Cerulli Associates.