Look globally and a whole new world of opportunity opens up for investors. Indeed, more investors in the US and Canada are starting to make increasingly shrewd decisions when it comes to their investment portfolios, and they are not shy about looking beyond their immediate borders for well-positioned businesses. With US stocks at record highs and some market watchers warning investors that overpriced US stocks are headed for a correction, American investors are looking to diversify into cheaper international stocks. This year alone, investors have withdrawn a net $6.3 billion from US stock funds, per data from the Investment Company Institute (ICI), while investing $60.5 billion in offshore stock funds. This waning enthusiasm for glamorous US stocks is contrary to what we’ve seen over the last couple of years as the herd of individual investors piled back into the equity markets. Since reaching a decade low in March of 2009, the S&P 500 has more than doubled, racing to a historic high recently. On the other side of the border, Canadians have also been a patriotic lot. 70% of the equities held by Canadian investors are in the domestic market despite Canada accounting for less than 4% of global capital markets. Canadians and Americans are not alone of course; the Japanese are more apt to invest in Japan. In fact, investors in many other countries tend to hug their own markets.
Portfolio diversification is defined as a way of mitigating diversifiable risk by investing in an array of assets. For a long time, the Canadian government had restricted its citizens from investing globally after the Foreign Property Rule (FPR) was introduced in 1971. This rule placed a 10% restriction on the foreign content of a Canadian’s investment portfolio; those who exceeded the limit were penalized. The restraint did not allow those Canadians with a more global mindset to diversify their portfolios by investing as they may have liked, forcing them to rely on a resource-dominated Canadian stock market for portfolio returns. This severely hindered opportunities to manage portfolio risk effectively.
Over time, this restriction – which applied to non-registered retirement savings plans – was lifted to a 30% limit and in 2005 the cap on foreign investments was abolished by the Canadian government. However, many investors still have not taken full advantage of the newfound freedom. In 2011 HBSC Canada surveyed Canadians who had investible assets of up to $100,000 or more and found that home country bias was deeply rooted. The survey revealed that Canadians invested 74% of their portfolio at that time in homegrown stocks. That figure is higher than today’s percentage, so perhaps Canadians are gradually becoming more comfortable with adding international equity exposure to their investment holdings. Given that the US and Canadian economies are mature, it makes sense to look for investment opportunities in regions that are growing at a faster rate.
It is even more critical for Canadian investors to invest globally due to the over-concentration of the Toronto Stock Exchange (TSX) in resource and financial stocks. It is understandable that investors would like to put their hard-earned dollars into companies that they are most familiar with, following Warren Buffett’s advice of sticking with your circle of competence. But even the “Oracle of Omaha” has expanded his investment territory over the last few years, looking at companies in China and beyond.
Garnet O. Powell, MBA, CFA
I am honoured to have been able to share with you my thinking on the investment process and would be delighted to hear your thoughts.