Country funds often get a bad rap from MSM even though any S&P 500 index fund is also a single country product. The utility of country funds is that they allow access into an investment destination without having to pick a stock. The downside to them, for example, could be that a weighting in banks might hold back what might generally be a technology exporting based country.
A potential issue with using a bunch of country funds is ending up too lopsided in some sectors and zeroed out in others. I was curious to see if a portfolio of just country funds could be assembled that captured some regional and economic diversification without ending up 35% in financials. So I plugged in the following ETFs into Morningstar to see what I could see.
iShares Canada (EWC)
S&P 500 (SPY)
iShares Australia (EWA)--personal holding
iShares UK (EWU)
iShares France (EWQ)
Market Vectors Russia (RSX)
iShares Taiwan (EWT)--a few clients own this one
iShares Malaysia (EWM)
iShares Israel (EIS)
iShares Brazil (EWZ)
A quick disclaimer before proceeding, I gave very little thought to the ten chosen and I'm not disclosing the simplistic weighting on the off chance someone tries to implement this.
Without looking under the hood just yet it is clear that the mix captures regional and economic diversification. You don't need to know too much about stock picking or portfolio construction to realize that but this was probably never in doubt.
As for the sector break down, shockingly the weight to financials (all sector info according to Morningstar) was only 19.95% versus 17.43 for the S&P 500. Tech was a meaningful underweight at 8.42 versus 16.73. The other overweights were telecom, materials, energy and industrials. The underweights were healthcare, staples, discretionary and utilities by a whisker.
According to portfolio science the stats are mediocre. The overall beta was 0.95, the correlation to the S&P 500 0.88 and the standard deviation was 23.91 versus 21.08 for six months. The average market cap was about half of the S&P 500 and the yield was a little better at 1.96%.
Morningstar was not able to calculate the performance for 1 year because EIS is too new. So backing that one out the portfolio was up 7.57% for one year (actually it only went back to May 31, 2007 for some reason) versus a 7.46% loss for the S&P 500 as measured by SPY. The Tel Aviv 100 Index was down 8.9% in the period studied so if EIS had existed it would have take a small bite out of the return.
The portfolio is mostly foreign and foreign did much better so the result is not a surprise--again foreign has done better. The next time the US is the best performing market a portfolio like this that is mostly foreign would obviously lag.
The bigger macro of this exercise is that it probably removes home bias (well, I think it does anyway). I also think that by drawing various types of countries it reduces, not eliminates, currency risk, for example lately the British pound has generally struggled against USD while the Aussie has been strong.
I think anyone putting some thought into country selection and weighting, and again I did not, could create a diversified portfolio without having to pick stocks or sectors or manage things like cap size or style.
The downside includes ignoring the things listed in the above paragraph which at times will hurt performance although that might not be fair, if you don't manage those things now you would not miss them in the future.
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7 comments:
Your posts on portfolio strategy are always interesting to me, Roger. Thanks. The question has come up before, I think without a satisfactory conclusion because better alternatives don't exist: Is it right or even fair to benchmark the S&P 500 when constructing a global portfolio?
Quite simply we use S&P 500 because it is the benchmark for US investors--it is well known and very easy for clients to access and understand.
I can't argue that it is the best in terms of precise benchmarks.
For a US investor w/ liabilities in US dollars a US market index makes most sense -- useful in volatility computation and instrument comparisons too as well as comparing money managers (who can be thought of as an 'instrument' for this purpose), but for the individual investor there is really only one benchmark that matters: Real, risk-adjusted, total return. I've maintained moving averages of the 90-day T-bill and CPI for years w/ the goal to exceed the synthetically reinvested product every year at comparable standard deviation.
When I decide I can't do that any more then that's when I'll probably just move a significant portion of the long-term portfolio into T-bills, quality floaters and perhaps some TIPs (I'm not a huge fan of TIPs for individual investors; if you have no COLA liabilities why pay a premium for TIPs when floaters typically react more quickly to interest rates and have better spreads).
I don't worry much about precision in this, just try to get the trend and magnitude right. Frankly, like all social networks, financial markets can never really be precise in an engineering or scientific sense and modeling them to decimal places as some of the financial rocket scientists out there appear to do is only a good way to fool yourself that you can anticipate or, god help you, even control events. The tendency of asset prices to revert to a mean appears to involve some mysterious force until you realize it's just the logical outcome of imprecise measurement, an secondary oscillation on a primary wave, a swarm of songbirds attacking a crow in flight.
instrument or tool? lol
Roger – appreciate your advice and observations. It’s great to see rationality in this often irrationally-hyped market. A little off topic but still on international. I have some shares in the ADR RIO and recently saw a “sponsor processing transaction” that equated to over 6% of the dividend. I believe the sponsor is JP Morgan Chase. The only information I could find on this type of fee was an SEC ruling that basically gave the NYXE the ability to do it. Do you know of any guidelines on this? It’s obviously something an investor needs to consider when incorporating the dividend into the return. Thanks.
I am sorry I have never looked into the guidelines for this.
RIO, which is a client holding, recently went ex for a $0.259 dividend. 6% works out to about a penny and half per share for a $36 stock at the time it went ex. While the various fees do need to be netted out if you are calculating your return but it is not a top priority for me.
point of clarification; that there are fees is not a top priority, as far as calculating reutrns for clients our software properly accounts for this sort of fee.
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