Taking it offshore

As Eureka Report expands its global equities coverage we look first at what is on offer within the locally listed ETF market.

Summary: When it comes to investing in international shares, Australian investors don’t have to go too far to make it happen. Listed on the Australian Securities Exchange is a wide range of broad-based exchange traded funds that provide easy access to offshore markets and specific countries, sectors and commodities.
Key take-out: Currency risk should be considered when investing in an international ETF. In particular, investors should investigate the currency strategy of the ETF that they are interested in, and make sure that they understand it and are comfortable with it.
Key beneficiaries: General investors. Category: Investment Portfolio Construction.

Over the three years to the end of June this year, the returns from Australian shares have been strong, averaging just over 9%, with a 16.5% return over the past 12 months. 

While this is good, returns from international shares have been better, with the Vanguard international share fund returning an average of 16.2% pa over the past three years, and 19.7% over the past 12 months. 

These returns are a reminder that even in times of good Australian sharemarket returns, international share returns also have been attractive.

We are often told that the Australian sharemarket is only a small slice of the world’s capital markets that is dominated by mining companies and banks, and diversification beyond Australia in a portfolio can help reduce the overall volatility of an investment portfolio. 

One of Australia’s biggest investment portfolios is the $100 billion Future Fund, and at March 31 it held 32% of its assets in international shares, with 24% of the portfolio invested in developed markets, and 9% in emerging markets.  This compared to holding 10% of its portfolio in Australian shares.

It is unlikely that many individual investors will hold more of their portfolio in international shares that Australian shares, however there are still arguments that we should, to some extent, follow the Future Fund example in terms of diversification and have some exposure to international shares in their portfolio.

Indeed Robert Gottliebsen pointed out last week just how pertinent the case for global investing has become (see It’s time you went overseas) . As Robert explained, the compound annual revenue growth rates over the next five years projects for US companies tend to be around the 7% to 7.5% range, while the equivalent Australian projections are in the 3.2 to 3.4%, making the US rate more than double that of Australia.

In the weeks ahead Eureka Report will be expanding its global equity coverage following the appointment of our first ‘international equities analyst’ Clay Carter (to read more on Clay click here). We will also guide you through the less direct methods of getting international exposure.

For many investors ETFs offer a first step into global investing; for others, there is the option of building a global shares portfolio that is a mix of ETFs and selected offshore listed equities.

What is available through ETFs

There are a number of ways that investors can get exposure to international shares – including directly owning overseas shares purchase through a broker, using traditional managed funds, using listed investment companies and using the increasing number of exchange traded funds (ETFs). ETFs offer relatively low-cost exposure to a variety of international markets, with the simplicity of having an investment manager look after the transactions for you and provide you with a tax statement each year. 

The range of exposure that is offered by the international ETFs that are listed on the ASX is impressive - from broad-based global exposure (e.g. the SPDR S&P World ex Australia Fund), through to individual countries (e.g. the iShares MSCI Japan ETF) through to investment themes (e.g. the iShares MSCI BRIC ETF, which offers exposure to Brazil, Russia, India and China) through to difficult to invest market segments (e.g. the Vanguard FTSE Emerging Markets Shares ETF).

The following table provides an example of the range of ETFs available to investors:

NAME

ASX Code

Benchmark

Cost

iShares Asia 50 ETF

IAA

S&P Asia 50

0.50%

iShares MSCI BRIC ETF

IBK

MSCI BRIC

0.69%

iShares MSCI Hong Kong ETF

IHK

MSCI Hong Kong

0.53%

iShares China Large-Cap ETF

IZZ

FTSE China 25

0.72%

iShares Global 100 ETF

IOO

S&P Global 100

0.40%

iShares Europe ETF

IEU

S&P Europe 350

0.60%

SPDR Down Jones Global Real Estate

DJRE

SPDR Dow Jones Global Select Real Estate Securities Index

0.50%

SPDR S&P World Ex Australia (Hedged) Fund

WXHG

S&P Developed ex Australia Large Mid Cap Hedged AUD Index

0.48%

Vanguard All World EX US Shares Index

VEU

FTSE All World Ex-US

0.18%

Vanguard FTSE Emerging Markets Shares

VGE

FTSE Emerging Index (in AUD)

0.48%

Vanguard US Total Markets Shares Index

VTS

CRSP US Broad Market Index

0.05%

iShares Global Healthcare ETF

IXJ

S&P Global Healthcare

0.48%

A full list of ETFs listed on the ASX is available by clicking here.

The starting point for adding shares might be a broad-based ETF, such as the iShares Global 100 ETF(IOO), which counts Apple, Exxon, Microsoft, Johnson and Johnson, GE and Chevron as its biggest holdings. From there, exposure to emerging markets might make sense, perhaps using the Vanguard FTSE Emerging Markets Shares (VGE). Then investors might choose the more specific ETFs to provide exposure to a specific country of interest (e.g. China) or a global market segment (e.g. healthcare).

The role of currency

A question when you look to invest overseas is whether or not to ‘hedge’ currency exposure.  My preference is to leave currency exposure unhedged.  This is because there is a slight cost in hedging currency that you avoid if unhedged (for example, the hedged version of the SPDR World Ex Australia fund costs an extra six basis points compared to the unhedged version). Unhedged returns tend to be less correlated with Australian share returns (which in turn offers greater diversification in a portfolio) and tend to be more tax effective. If, as an investor, you are inclined toward the opinion that the Australian dollar is still strong and more likely to fall in the future than rise, an unhedged strategy will make more sense as a falling Australian dollar will increase future returns.

That said, amongst the investment options offered by ETFs, there are both hedged and unhedged exposures – for example, the SPDR World Ex Australia (Hedged) and SPDR World Ex Australia fund.  Investors should investigate the currency strategy of the ETF that they are interested in, and make sure that they understand it and are comfortable with it.  Further, as individual investors, we don’t have to take a stand to be completely hedged or not, and might choose to have some of our international exposure currency hedged, and leave some of it unhedged. 

As a sidenote, there are ETFs that offer specific currency exposure, if that is all an investor wants, although I suspect that these ETFs are unlikely to be core long-term holdings in portfolios.

Conclusions

Amongst the ways to get exposure to international sharemarkets, ETFs are worth considering for investors who are looking to diversify their portfolio to include some international shares. 

Their comparative low costs, instant diversification and the simplicity of an investment manager who provides a tax statement each year (albeit usually a fairly complex one) are attractive, as are the enormous range of options that they offer – from exposure to emerging markets, global market segments like healthcare, specific countries like Hong Kong, themes like BRICs, and broad-based international exposure.

And given that there has been strong growth in the variety of international share ETFs over the past five years, we can expect to see even more options in the future.

Scott Francis is a personal finance commentator, and previously worked as an independent financial adviser. The comments published are not financial product recommendations and may not represent the views of Eureka Report. To the extent that it contains general advice it has been prepared without taking into account your objectives, financial situation or needs. Before acting on it you should consider its appropriateness, having regard to your objectives, financial situation and needs.

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