3 Reasons To Invest in International Stocks

3 Reasons To Invest in International Stocks

August 18, 2020

Since the Great Financial Crisis, U.S. stocks have outperformed international stocks by a wide margin, causing some investors to ask the question “Why would anybody have exposure to international stocks when U.S. stocks have been the better performing asset class?” There are still important reasons why a diversified investor should have exposure in some capacity. Here are a few key reasons as to why investing in international stocks makes sense.

  1. Income generation: The cultural differences between U.S. companies and International companies shape the way capital is returned to shareholders. Typically, when a company has excess cash on hand, the Board of Directors will determine the best way to pass on that excess cash to shareholders. In the U.S., more mature companies will typically institute a share buyback program or pay a dividend. Depending on the company, the Board of Directors may do either or both – depending on the outlook for their business. U.S. stocks - at least historically speaking - have instituted a balanced approach in terms of how they return capital (both buying back shares and paying a dividend). International companies differ, in that they typically tend to pay dividends to shareholders in lieu of a share buyback program. Over the last 20 years, U.S. stocks on average have yielded less than 2% while international stocks have yielded over 2.5%1. The cultural difference alone would suggest that investors who need income should own international stocks in some capacity to increase the amount of income generated by their portfolio.
  1. Currency Exposure: One of the main reasons why domestic stocks have outperformed is the movement of the U.S. dollar. When a U.S. investor owns a basket of international companies, they take on more risk than just stock market risk. Currency risk is also involved, which can impact the returns of international stocks for U.S. investors. Currencies are valued on a relative basis, so when the U.S. dollar goes down in value we tend to see other currencies appreciate. For example, let’s say a company sells goods and services and receives Euros in return. If the U.S. dollar goes down in value (and Euros appreciate) then the company in this example is earning more revenue than the market originally thought. This can cause the stock price of that company to increase in value, even though they are still selling the same absolute amount of goods and services. Currency movements are extremely difficult to predict, but having exposure to international companies can benefit U.S. investors when the U.S. dollar goes down in value.
  1. Opportunity Set: The index returns for U.S. stocks has certainly outperformed the index returns for international stocks. While that is the case, if investors completely ignored exposure to international companies than they would have missed out on owning a few of the top performing companies that are domiciled in emerging and international developed markets. Companies such as Alibaba, Nestle, and Toyota would have been excluded from investors’ portfolios. Having exposure to international stocks increases the probability of owning top global companies within an investor’s portfolio, which could increase returns, improve diversification and reduce volatility.

Investing in any asset class introduces additional risks to investor’s portfolios, and international stocks are not an exception to the rule. However, investors who must maintain a diversified portfolio could benefit from owning international stocks in the long-term. Discussing the appropriate allocation to international stocks with your financial advisor could lead you on a better path towards achieving your long-term financial goals.

This post is intended for informational/educational purposes only and should not be construed as investment advice, a solicitation, or a recommendation to buy or sell any security or investment product. The main risks of international investing are currency fluctuations, differences in accounting methods; foreign taxation; economic, political or financial instability; lack of timely or reliable information; or unfavorable political or legal developments.

1 Source:  Vanguard, FactSet.