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International Investing – What is Possible? Is it Worth it?

The following article aims to provide an overview of why international investing should be considered as an investment option for some clients. We touch briefly on direct property investing overseas however the main focus is on investing in businesses, property or infrastructure assets listed on overseas stock markets as that is more practical and achievable for most.

Where we have used terms that may not be familiar we have provided a link to a reference article to help with the explanation rather than make this Blog too wordy. You can access these links within the text below.

Diversification Can Reduce Risk and Increase Long Term Returns – Some Things to Think About

  • Perth property returns are strongly influenced by the commodity prices and health of the mining and resource industries. Most of us with property in Perth have benefited from this through house price growth and also often salary income growth and job security.
  • WA has traditionally been a boom bust state. We hope we are moving away from that but only history will tell. For a detailed view read the “Illusions of Comfort Article
  • 30% of the Australian share market is made up by banks.
  • More than 10% of the Australian share market is the made up by is BHP and RIO, the world’s two biggest miners.
  • Westfield Group and Westfield Retail together make up approximately 36% of the Australian Listed Property Trust (AREIT) Sector.
  • On the Australian Market we don’t have the big drug companies (Pfizer, Johnson & Johnson, AstraZenica etc), or the big tech companies (Apple, Samsung Microsoft, Amazon etc).
  • The ASX represents approximately 2% of the world markets.

Imagine being an Investment Manager with a mandate to find great investments that are reasonably priced. Wouldn’t it be nice to have the freedom to look at the other 98% of investment opportunities in the world that aren’t Australian based?

What About the Currency Effect?

This is commonly considered one of the risks with international investing. But it can also make international investing less of a risk than investing in Australia.

Why? – In general, since the Australian dollar was floated in 1983 it has tended to rise in times of strong world growth and drop in times of weak world economic growth, partially because it is considered a commodity currency. So what this can mean is that in a period when investment markets are falling due to economic shocks or lack of confidence, the AUD also falls which has the effect of reducing the investment losses in AUD terms.

In the 10 years leading up to 2010 the fact that the Australian dollar generally rose against the basket of international currencies meant that returns from international investments were negatively affected. Managed funds using currency hedging were less affected but did suffer much larger falls in 2008 as the GFC caused the AUD to drop sharply.

What Has The Historical Performance Been Like?

The Russell Investments chart shows the performance of the various asset classes over the last 30 years and provides an interesting summary of annual returns.

There have been two periods in this 30 year timeframe where for 3 out of 4 consecutive years the unhedged international investments were the best of the asset classes. 1998 was the last time unhedged international was the best. 2013 is likely to be another such year with the MSCI International index up 42.78% in the 12 months to 30/11/13 but it has been a long time coming. Whether the international markets will be the strongest for 2 out of the next 3 years can not be known at this point.

Some Interesting Points 

  • The annual economic performance of a country has little correlation to the share market returns for that year. What this means is that deciding which countries are likely to have the best economic growth and investing there, hasn’t proven to be a good strategy in the past.
  • Having a geographical spread doesn’t mean you’re diversified. Many of the world’s best companies earn the majority of their income from countries other than where head office is located. Think Toyota or Shell. For example you could be invested in 10 companies across the world and still have all the earnings dependent on Chinese growth or the US consumer.
  • BHP shares sell for approximately 14% (and up to 20%) less on the UK market than they do on the Australian market so funds who want to hold BHP generally prefer to buy it on that market.
  • Interest on borrowings used to invest overseas is still generally tax deductible. i.e. you can negatively gear into international investments.
  • Australia is one of the most regulated and protected places for Australians to invest. There are significant investor and consumer protection measures in place that are not available in most other countries. Attracting Australians to send money overseas to seemingly safe and exciting investment opportunities is a big focus of fraudsters and due to the embarrassment most victims don’t report the incident.
  • The income from international shares is generally lower than the Australian share market because most countries tax dividends fully without offsetting for the tax the company has already paid. Investors in Australian Companies only pay the difference between the corporate tax rate and their marginal tax rate.  Because of this, American companies have tended to reinvest profits within the business to aim for higher capital growth rather than pay them out to share holders.
  • Americans can claim the interest on their home loan as a tax deduction and some can hand back the keys in full forgiveness for the loan if they can’t make payments. Wouldn’t that be nice!

What are the options for Gaining Exposure?

  • Direct property investment is possible in some countries but can be difficult to manage. By way of example a friend’s unit in Chamonix has never been reliably rented out and he has always wondered if friends of the property manager are using it without permission. Investing in Bali property generally requires the title to be held in an Indonesian partner’s name which introduces additional risk.
  • Buying shares listed on stock exchanges in different countries is becoming more possible and cost effective.
  • Managed funds can be used to access international property and infrastructure investments which most of us don’t have capital to own entirely.
  • Managed funds mean specialists in certain sectors or countries bring deep insight to the investment selection decisions.  They are also able to overlay currency hedging strategies to reduce risk or profit from currency movements. And some are able to profit from falling markets by short selling individual companies. For example one of our funds was short selling US banks in the lead up to the GFC and made an 18% profit which offset the drop in value of the underlying investments meaning no losses during the GFC. Last year they were short selling Caterpillar on the expectation that sales would slow as the mining industry reduced spending and the Chinese construction boom slowed down. We have heard about the impact of this slowdown as Westrac the local distributer of Caterpillar gear recently retrenched hundreds of workers due to lower sales demand.
  • The range of Exchange Traded Funds which provide international exposure and can be purchased like shares on the ASX is growing. These are generally index tracking rather than Active Management.
  • The difficulty of choosing the right investments and managing the cashflows, accounts, currencies etc is complex for an individual which does mean that using a manager is the most popular method of gaining international exposure.

What is the Outlook?

Being able to invest internationally greatly enhances the opportunity to find exciting investment opportunities at good prices.

The 10 years leading up to 2013 was a period where international investing didn’t look very attractive compared to Australia’s strong property and share market.

With the massive rises in value of the Australian banks which dominate the Australian stock market, potentially weaker economic growth in Australia as the Resource construction boom winds down from great heights, and with the RBA and Government keen to see the Australian dollar drop in value to support the Australian economy, it may be a good time to be invested internationally.

If you would like to discuss options or you are interested in a more in-depth discussion about  international investing please contact us on 08 9274 2888.

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