Is Global Diversification Dead?

I do not believe that the global diversification strategy is dead for some of the reasons discussed at the end of this article. However this year it hasn’t helped investors.Many foreign markets have fallen more than the US markets.

In the US, the S&P 500 Index is down 40.53% year-to-date(YTD) as of November 14,2008.Within the index,the financials are the worst performers. They are down 56.76% YTD – much higher than the SP500 Index. Consumer Staples components are down only 19.24% YTD. Healthcare, the second best performing group is down 27.29%. The interesting fact about this bear market is that even utilities in the index are down 32.6%.

SP500 Index Returns


Source: Standard & Poors

To analyze how foreign markets have performed this year, I used the Bank of New York Mellon ADR Indices. These indices are capitalization-weighted. Though the bank publishes a composite ADR Index and 3 regional indices used the individual country indices for this study.

Bank of New York Mellon ADR Indices


Source: Bank of New York Mellon

Compared to the SP500 Index performance of about -41%, the markets of the developed world have been worse.The ADR Indices of France, Australia, Germany, UK, The Netherlands,Italy,etc. are down more than the S&P 500 Index.

Since the ADR Indices include only the Depository Receipts listed in the USA, it is possible that the main market index of the respective countries might have fared a little
better of worse.To solve this issue, I reviewed the performance of the base index used for the country-specific ETFs issued by iShares. Even with this logic, the above six developed countries are down more than the S&P 500.

As for the emerging countries,no research is needed as their markets have fallen heavily in recent months.The ADR indices of the BRIC countries are worse off than the S&P Index by more than 10%.Russia is the worst performer in this group due to the crash in crude oil and other commodity prices.

The Chile ADR Index is down only about 17% YTD.This is interesting since Chile is also an emerging market with heavy dependence on commodities export especially copper.

Some of the reasons why global diversification is an integral part of any investment strategy:

1.Foreign stocks have higher yields than US stocks. For example,New Zealand stocks yield on an average 4X the yield of US stocks. Similarly other countries such as Sweden,UK, Peru, Australia, etc. have higher yields.(Source: Bloomberg).

2.The declining dollar will be favorable to investors investing in overseas markets.

3.By investing only in US stocks, an investor will miss out on many high quality overseas stocks that offer great yields and stable long-term growth.

4.In the past 25 years,the US markets was not the best performing market even once among the developed markets in the world as per “The Callan Periodic Table of Investment Returns”.

The Callan Periodic Table of Investment Returns

Callan Charts

(Click on chart to enlarge )

Source: Callan Associates

It must be noted that foreign exchange, transaction costs, taxes etc. have not been included in the above analysis. When those are taken into consideration it is possible
that the returns of foreign markets may be lower.

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