Why invest in international equities?

As we head into the federal election, one of the more contentious policy announcements has been the removal of refunding franking credits, in certain circumstances.

Various media commentators have suggested selling Australian equities and buying international equities instead. Is the possibility of a tax policy change sufficient enough reason to buy international equities? International equities cover the whole world, not just the United States and the S&P500. Going global also includes Asia, Europe and other emerging markets like India and Brazil. Just their sheer size makes the Dow Jones Industrial Average and the S&P 500 Index the most watched – although arguably the Nasdaq is the most exciting.

The sheer scale of companies like Amazon, Apple and Microsoft – as they race to pass the US$1 trillion in market capitalisation mark – means that, by not investing in them, we are missing out on fantastic companies, with revenue from around the world, selling numerous products and services that we, as Australians, buy, because our domestic companies either do not sell or do not have the same global scale.

These global companies give your portfolio diversification, by selling into numerous markets around the world, not just their own backyard. It is rare that the world is in synchronised growth, that is, all geographic regions are humming along nicely. The revenues from Starbucks comes from both USA and Asia and J&J sell their medical products and services around the globe. This global reach means that if the consumer or business in Europe is withdrawing, then the consumer or business in Asia might still be strong and the total revenue, in fact, might still be growing.

With the Australian S&P/ASX 200 highly weighted to banks and materials, diversifying into industries like healthcare and technology – both hardware and software – allows the investor to spread risks and capture growth in areas of the world that are performing strongly or where companies are embracing the use of this new technology.

There are risks involved with investing in international equities:

• Just like any investment, you have to be mindful of political risks, but international equities also bring geographic risks.
• Different regions of the world will be performing differently, at different times, and investing into these regions may result in underperformance of your portfolio, compared to the MSCI index benchmark.
• Currency movements became a consideration – not only the Australian dollar, but also the currency of the country where you are investing.
• The risks of interest rate movements are also important to understand. In the last quarter of 2018, the S&P 500 fell nearly 20%, due to the Federal Reserve constantly increasing interest rates and continuing to publicly espouse further interest rate rises into 2019. It was only once the Federal Reserve stopped the rhetoric around raising interest rates that we had the March 2019 quarter bounce-back to new highs in the S&P 500 and the Nasdaq.

There are many ways to invest into international markets:

• Directly – there are brokers and investment platforms which allow you to purchase individual stocks listed on the major international bourses.
• Exchange Traded Funds (ETFs) and Listed Investment Companies (LICs) – increasing in quantity all the time. Some ETFs also allow you to invest in specific themes like food, cyber security and metals.
• Passive and active fund managers. The MSCI World Index has 1650 companies. Narrowing that list down to companies that are growing revenue, cashflow, earnings per share – to name a few metrics that the investment community use – is complex and time consuming. Fund managers, both active and passive, provide an investment vehicle to allow investors to access these companies. Many fund managers also have specific geographical investment funds.

It is much simpler now to invest in international equities and most risk profiles set aside a certain percentage for international equities. I have seen some asset allocation to international equities now exceed exposure to Australian equities, for the reasons stated above. Australia has some great companies that perform extremely well in the domestic market, and, to date, franking credits have made the domestic equity market attractive in certain individual stocks. With the announcement of potential rule changes to refunding franking credits, is it time to reallocate some domestic equity exposure to international equities? It depends! Below are some further considerations.

• Will you have a capital gains tax exposure if you sell your Australian shares?
• Are the international equity markets more expensive and has the easy money been made in this March 2019 quarter rebound?
• Will the Australian dollar go up or down, thus impacting the value of your portfolio? (If this concerns you then some fund managers do hedge their international portfolio in some products).
• Do you need the stable cashflow of the dividends paid by domestic equities? International equities, more so in the USA, pay smaller dividends and rely on appreciation of share prices to generate their wealth and growth (share buybacks).
• Do you want access to exciting new technologies and global scale and revenue exposure?

You need to discuss all of the above considerations with your trusted financial adviser. You also need to review your financial plan and see whether increasing your asset allocation to international equities will help you reach your financial goals and objectives.

Be wary of selling domestic equities and jumping on board the international equity bandwagon, just for a tax policy announcement. Take the time to be more strategic and consider the above pros and cons.

If you have any queries about any of these items, please contact us.

The information contained in this article is of a general nature and does not take into account personal circumstances. Before making any decisions based on the factual information contained in this document please consult with your financial adviser.