Do International Equities Provide Diversification Benefits?

Stock Market Over the last decade, U.S. equities have outperformed equities from other countries around the world, and globalization has increased correlations between U.S. and non-U.S. stocks. Many investors, including professional money managers and advisors, have been questioning whether this increased correlation has eliminated the benefits of diversification between U.S. and non-U.S. Equities. To answer that question, I believe that it is important to not just consider the correlation of returns, but also the dispersion of returns.

Figure 1 below shows the annual returns for U.S. stocks and non-U.S. stocks from 1/1/2001 through 12/31/2018.    

 

Figure 1

Figure 1 Intl Equity

U.S. equities represented by S&P 500; Non-U.S. equities represented by DFA International Value Fund

 

While there were 3 years during this time period where U.S. stocks had a positive return and non-U.S. stocks had a negative return, most of the time, both asset classes moved in the same direction. While the correlations were somewhat high and both asset classes tended to move together, the dispersion of annual returns was also somewhat large. Figure 2 shows the difference between the annual returns of U.S. stocks and non-U.S. stocks (the dispersion of annual returns). Points above the center horizontal line (marked 0.00) show that U.S. stocks outperformed non-U.S. stocks that year and by how much. Points below the 0.00 line show that U.S. stocks underperformed non-U.S. stocks that year and by how much. For example, in 2004, U.S. stocks underperformed non-U.S. stocks by 14.10%.

 

Figure 2

Figure 2 Intl Equity

U.S. equities represented by S&P 500; Non-U.S. equities represented by DFA International Value Fund

 

Figure 3 illustrates that while the longer term returns for these two asset classes were similar, each asset class had long periods of outperformance.

 

Figure 3

Figure 3 Intl Equity

U.S. equities represented by S&P 500; Non-U.S. equities represented by DFA International Value Fund

 

Finally, figure 4 shows the 3-year standard deviation of U.S. equities and non-U.S. equities as well as the standard deviation of a blended portfolio of 60% U.S. equities and 40% non-U.S. equities.

 

Figure 4

Figure 4 Intl Equity

U.S. equities represented by S&P 500; Non-U.S. equities represented by Schwab Fundamental International Developed Large Company Index

 

With a correlation of .71 over the same 3-year period (ending 1/31/19), these assets didn’t move in exactly the same way, and the portfolio of both U.S. and non-U.S. stocks had slightly lower volatility than either asset on its own.

Conclusion:

The long-term historical returns and long-term expected returns for U.S. equities and non-U.S. equities are very similar. The annual dispersion of returns, however, can be large, and as figure 2 and figure 3 illustrate, there are sometimes long periods of time where U.S. stocks outperform non-U.S. stocks and long periods where they underperform. Owning both U.S. and non-U.S. equities can increase your chances of receiving the long-term expected return with less volatility over time.

Additionally, because these asset classes are not perfectly correlated and don’t move in exactly the same way, a diversification benefit may be realized, especially over longer periods of time that include periods of outperformance and underperformance for U.S. stocks. This diversification benefit can be in the form of increased returns, reduced risk, or both.

Volatility in Equities - A Longer-Term Perspective...
Market Commentary

Related Posts

By accepting you will be accessing a service provided by a third-party external to https://www.broadreachwealth.com/

07 June 2019
Wealth Management
U.S. equities have generally dominated broad global equity indices over the last ten years, and many investors are wondering if globally diversified portfolios still make sense. I recently ran across a brief and very basic piece from Vanguard, that v...
17 May 2019
Wealth Management
There are many reasons you may consider naming a trust as beneficiary of your retirement plan or IRA. The most common reasons are: 1) The beneficiary is a minor or is disabled (special needs). 2) The beneficiary is not financially responsible, a...
27 April 2019
Wealth Management
Below is a portion of a recent article from "The Motley Fool". The author makes a few very good observations about long-term investing in the U.S. stock markets. None of these observations are new or unique, but I think they are well worth reviewing....
25 April 2019
Wealth Management
When investing in equities, it is very helpful to view volatility from a long-term perspective. As illustrated by the charts below:  the longer an investor holds stocks, the more likely the investor receives an overall positive return. (For exam...
21 February 2019
Wealth Management
Over the last decade, U.S. equities have outperformed equities from other countries around the world, and globalization has increased correlations between U.S. and non-U.S. stocks. Many investors, including professional money managers and advisors, h...
08 May 2018
Wealth Management
With interest rates now rising and the Fed expected to continue to raise it’s Fed Funds rate by 25 bps at each of the next few quarterly meetings, we expect treasury yields to increase as well. Genera...
21 February 2019
Wealth Management
Over the last decade, U.S. equities have outperformed equities from other countries around the world, and globalization has increased correlations between U.S. and non-U.S. stocks. Many investors, inc...
07 June 2019
Wealth Management
U.S. equities have generally dominated broad global equity indices over the last ten years, and many investors are wondering if globally diversified portfolios still make sense. I recently ran across ...
03 August 2018
Wealth Management
For many decades now, research has shown that investing in international equities can help reduce volatility in a portfolio while preserving or increasing long-term returns. While institutional invest...
25 April 2019
Wealth Management
When investing in equities, it is very helpful to view volatility from a long-term perspective. As illustrated by the charts below:  the longer an investor holds stocks, the more likely the inves...

Broad Reach Wealth Management
Phone 941-306-4621
Fax 941-306-4622

1800 Second Street
Suite 700 C
Sarasota, FL 34236

Image
Image

Copyright © 2020. Broad Reach Wealth Management. All rights reserved. 

Web Design and Hosting by Concept Digital Media