Canadian Canadian investors have done well from having a high proportion of their portfolios in stocks in the past five years but investment experts believe Canadians would be wise now to go global.
Their main point is that if you limit your RRSP equity investments to Canada, you will be missing out on some great opportunities to boost returns and reduce risk in the years ahead.
Of course, a key consideration in going global is the Canadian dollar, whose 40-per-cent rise since 2002 wiped out a lot of the capital gains Canadians were counting on from their foreign holdings.
However, a report by TD Economics, entitled 10 Reasons Canadians Should Invest Abroad, argues that the exchange rate shouldn’t be a deterrent to international investing since the upside to the Canadian currency is limited to a few cents and, in any event, for those that are worried about it, there are currency neutral mutual funds geared to foreign markets.
As for how much of your portfolio should be in international investments, Fidelity Investments notes that historically in the past 15 years, Canadians would have maximized returns per unit of risk if they had allocated at least 40 per cent of their equity portfolios to international investments. In the period 1970 to 1990, the allocation should have been at least 50 per cent.
This is a far cry from the approximately 14-per-cent allocation that Fidelity says Canadians currently have in international equity mutual funds (in addition to the 16-per-cent allocation to U.S. equity funds).
Among the key reasons for international investing cited from various sources are the following.
1. The Canadian stock market is only 4 per cent of total world stock market capitalization. Put another way, 96 per cent of equity opportunities are outside of Canada and 45 per cent are outside of Canada and the U.S.
2. The Canadian stock market is quite narrow, with more than 60 per cent concentrated in energy and financial stocks.
3. Because of the high proportion of energy and metals stocks, the Canadian market is more cyclical than many international markets. An extended slump in commodities prices would lead to a cruel underperformance for those relying on investing in Canada.
4. The top world companies in autos, household durables, food products, real estate, information technology, defence and pharmaceuticals are headquartered and traded on exchanges in the U.S., Europe and Asia.
5. International companies are in a better position to profit from lower wages abroad, such as in Latin America and Asia.
6. International stocks are generally cheaper, as measured by such metrics as price-earnings ratios, than Canadians stocks.
7. Profits will tend to accrue more to companies in high-growth countries such as China, which recently forecast a 10-per-cent real growth rate for 2007, compared with an expected 2-to-3 per cent real growth in North America.
8. Canadian and international stocks take turns producing top returns. Canada outperforms half of the time and international stocks the other half. Since Canada has outperformed for the last five years, there is a good chance it will start underperforming soon.
9. International stocks have a historically low correlation with Canadian stocks, meaning that, while there is no guarantee, diversification into international stocks should reduce volatility and risk in the portfolio – making for a smoother overall performance.
10. Foreign stocks often have higher dividend yields, which is a major component of total return over longer periods of time.
Canadians have no shortage of ways to achieve international diversification in equities and no limitations following the federal government’s removal last year of a 30-per-cent limit on foreign investments.
Fidelity, for example, offers among others the Fidelity International Value Fund, which scouts the world for bargains, and regional funds for Europe, Latin America, Emerging Markets, Asia, China and Japan. Other fund companies have similar offerings.
One consideration is whether to sock funds into an international fund or to try to choose specific regions or countries (such as China or India). Unless you are ready to do some time-consuming analysis, it may be best to choose an international fund and let the fund manager decide which part of the world offers the best prospects.
Wayne Cheveldayoff is a former investment advisor and professional financial planner. His columns are archived at www.smartinvesting.ca and he can be contacted at wcheveldayoff@yahoo.ca.
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©2007 Wayne Cheveldayoff