Diversification helps balance out the two aspects of investing: risk and reward. Diversifying your portfolio of investments by investing in emerging and foreign markets outside the United States can help you in the long-term.
You may be wondering why you should invest in foreign markets when the returns from American stocks are growing at a higher rate. The Dow has gone past 20,000 and stayed above it for the longest time in history. Many long-term investors are optimistic about the American economy. During the beginning of 2018, American stocks went up 3% while foreign stocks dropped 2%. Questioning why you should invest in foreign markets is valid, but fails to account for the full picture or long-term plan. Markets go up and down, and while the American economy may be doing well at a certain juncture, it does fluctuate.
The Benefits of Investing in the Global Market
Investing in the global market helps you overcome any limitations from having too narrow a focus and limits your risk from potential recessions or dips in the U.S. market. Diversification can help protect you against risks that you did not anticipate or plan for.
During the first decade of this century, many American investors lamented the poor performance of the S&P, calling it the "lost decade," as annualized returns were -0.95% over the 10-year span. At the same time, investors with foreign and emerging market allocations, enjoyed 6.82% annualized returns.
Many American investors have a natural bias towards investment in well-known American companies they hear about in the news, such as Amazon, Netflix and Google. However, this home bias fails to include any participation in economic successes in other markets and in other parts of the world. This is partly due to lack of knowledge.
Developing Countries and Emerging Markets
Some developing countries, such as China, India and Brazil, have shown tremendous growth on an annual basis in recent years, as high as 29%. Emerging markets are also ripe for innovation and at times adopt new technologies faster than developed countries since they have to build a supporting infrastructure as well. Knowing what companies and markets to invest in requires some research and planning. The short-term performance of foreign and emerging assets does not reflect their future performance, as many of these companies and markets are in the early stages of development. In fact, the World Economic Forum predicts that a fourth Industrial Revolution and productivity boom can be expected in emerging markets. As the global market evolves and grows, your investment strategy would ideally adapt to include some emerging market equities.
There are multiple sources for information about emerging markets. The World Economic Forum, the United Nations and the World Bank all provide relevant, current research on global trends and economic development around the world.
Diversification Is Key
When you invest for the long-term, it is important to diversify. This helps you in both protecting against risk and leveraging rewards through high-performing asset classes. According to data analyzed by MSCI Inc., a global provider of equity, fixed income, hedge fund stock market indexes and multi-asset portfolio analysis tools, in 2009, one year after the recession, U.S. markets (MSCI USA Index) experienced a 24.2% return while emerging markets (MSCI Emerging Markets Index) raked in a return of 74.5%.
Having a diversified portfolio for the long term that includes global emerging markets and foreign markets will help you ride out the ups and downs that comes with any stock investment. By investing in global markets in addition to your existing domestic investments, you can strengthen your portfolio and enjoy the benefits of a fully diversified portfolio with long-term earning potential.
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