FOOL'S EYE VIEW
Investing Overseas

By Stephen Bland (TMFPyad)
September 17, 2001

This article aimed at those general equity investors who utilise funds as their primary vehicle, rather than individual shares. Thus they are sold on the idea of equity investing but prefer the broad spread of shareholdings offered by a fund to the risks of a personal portfolio. I refer here to tracker or similar broad market funds, not sector specialised ones.

Fund investing in general must be seen as a very long term proposition so that nobody should really invest in a broadly based fund like a tracker or similar at all unless they are looking say ten years ahead at least. No guarantees even then of course but that is the kind of time scale that I would advise for general or tracker style fund investors in any market.

The question is whether they should consider buying funds in foreign markets, whether trackers or active versions, or if it may be preferable to stick to the UK market, again via trackers or active funds.

These options are not of course mutually exclusive. There is nothing to prevent those fund investors with sufficient money going for a selection of funds from the UK and abroad. You would not need that many to construct a sort of world fund, given the weightings that various stock exchanges around the globe actually form. For example if you owned tracker funds or similar in the UK , US, Japan and Europe you have bought the majority by value of all the world's markets in any case. To complete the deal add in a small dash of the smaller markets including the emerging economies, and you have yourself more or less a world fund.

But is this a good idea, specifically will this huge geographical range improve performance as against a pure UK fund? I have my doubts but ultimately nobody can know how things will work out so this is just my opinion.

The more you spread your investments the more you achieve the mean return that will prevail over all your holdings. This is the whole aim of a wide range, precisely to avoid diverging from the benchmark with the associated risk that you might underperform it. You might outperform it as well but the kind of approach that says that you should invest worldwide is seeking only average performance. It is much the same kind of thinking that says even with a single market fund a tracker may be one of the better options. Such an investor is willing to sacrifice the search for outperformance on the altar of risk avoidance. That risk being the chance of seriously underperforming an index by exercising investment judgement.

Similarly by investing in trackers of more than one market you are in effect saying to yourself that there is going to be an average performance of these markets in future which will be better than some, or worse than, the performance of any single one of those markets. Since it is not possible to know in advance which country will be the better performer, I am not going to try and guess but will simply invest in them all and thus achieve roughly an average showing after currency fluctuations. That way I will avoid the risk that I end up with an underperforming country compared with them all and I accept that I cannot end up with an outperforming one.

I personally am not in favour of enormous diversification. But that's me. I have probably a much higher risk acceptance level than most investors. But even for tracker types, I am not sure that buying a load of geographically diversified funds is necessarily attractive. Taking the rough with the smooth is not something that is necessarily attractive. Ideally you want the smooth with the smooth but since that involves guessing the future of a specific market it increases risk. So be it, I believe this is a risk worth taking particularly if you stick with say just one of the UK, or the US or maybe a Europe fund. I could understand the reasoning for buying all three but I have my doubts that it is desirable. The trouble is that you'll never know until several years later when it will be too late. Share investing involves risk and each investor has to make their play in deciding where on the risk spectrum they wish to stand.

But sometimes it is desirable to have your eggs in one basket. Much easier to make an omelette. And a single country tracker fund like the UK or the US is alone a pretty big basket.