International investments for retail investors
In this article, Mohit Ralhan, Managing Partner & CIO, TIW Private Equity shares his views on international investing.
Investors in general, exhibit a strong home country bias. This is quite natural, given the human psychology to assign higher risk to unfamiliarity. The trend is slowly changing in developed countries, especially in the USA, where the per cent allocated to international equity is approximately 23 per cent according to industry sources, which is still lower than the ~30 per cent level suggested by several academic models and investment advisors.
In India, it is extremely minuscule at approximately 0.1 per cent and for good reasons. The Indian economy has been amongst the fastest growing in the world, and it is slated to become the third-largest by the end of this decade. India itself is increasingly becoming an attractive investment destination for global investors and therefore, for domestic investors as well, there is strong merit in keeping a predominant part of their portfolio in domestic assets.
However, if an investor has a future dollar liability, then he/she must explore allocating a part of his/her portfolio to dollar-denominated investments. Indians spend approximately US$ 5 billion every year on their kid’s education abroad.
International investments are also a good diversification strategy. It is a well-established fact in financial literature that global diversification improves risk-adjusted returns. In the recent research by Vanguard, they found that the portfolio volatility (i.e., risk) declines with the increase in allocation to international equity to about 40 per cent-50 per cent. The reduction in risk is a direct result of having a broad-based exposure to a wide array of economic, market & geopolitical forces. It also offers much better coverage of global value chains of businesses/industries in comparison to concentrating investments in one country.
The product depth and investment options available to investors in international markets are quite large. The market capitalisation of all Indian stocks is only approximately 2.4 per cent of the global market capitalisation. So, the Indian investors are not participating in approximately 97.6 per cent of the global markets by not going international in their investment approach.
International investments are the only way to take exposure of some of the world’s largest global enterprises and brands such as Facebook, Amazon, Google, Apple, Microsoft, VISA, Master Card, Samsung, Intel, Coca Cola, Pepsico, Loreal, Nike, McDonald’s, Netflix, GE, Volkswagen, Toyota, and Starbucks, to name a few. Even if an investor is not familiar with individual companies, he/she can look to invest through exchange-traded funds (ETFs), which can help in not only building a diversified portfolio but also take exposure to specific industries and investment themes. There are more than 2,000 ETFs available in the USA with a total AUM of USD 5.3 trillion. For Indian retail investors, investing through specific ETFs is the suggested way to take international exposure.
However, international investing does carry its own set of associated risks and challenges. One needs to take into account taxation, liquidity, and the cost of investments. Also, Indian investors need to spend time to understand how social, economic, statutory & political ecosystems work overseas in order to select the right products. Still, in spite of the challenges, there is a good case for retail investors to allocate a part of their portfolio to international assets; especially if he/she is expecting a future dollar liability/expense.