For those who tend to watch financial markets closely, you will tend to notice that many markets throughout the world are moving in the same direction. This is true for both stock and bond markets.
While many people are aware that our market has been quite volatile in recent months, most foreign markets are exhibiting even greater movement. This is true, not only in emerging markets, but also in the developed markets of Japan and Europe. For example on days our market might move 2%, other stock exchanges are changing 3%.
This movement we are seeing in various markets is also occurring across industries. Financial stocks have been poor performers thus far this year in the U.S. In other countries, notably Europe, their underperformance has been even greater.
In the bond market we have seen yields on 10-year Treasuries fall below 2% this year. In Germany and Japan yields on their 10-year government bonds are only slightly above zero.
These relationships are showing that the world is becoming much more interconnected. This is certainly the case where there is a global market for certain goods or financial assets.
Oil is a perfect example of a good that is impacted by global developments. A change in oil demand or supply in Europe is just as important to the price of oil in the U.S., as a shift in supply or demand in our country. That is because the price of oil is determined by the summation of global supply and demand, not supply or demand in one individual country.
Services are an example where the global environment has little impact. The cost of a haircut or tax preparation in Culver City is not being impacted by what is going on the in the rest of the world, while the price of gasoline is.
Looking at inflation data there is a significant difference in the price of services versus goods. There has been little inflation in the price of goods in recent years because of foreign competition and weaker commodity prices. In services there is clearly inflation, as rents and healthcare are good examples.
In the investment field diversification is always recommended, as a method to reduce risk. This diversification also extends to international investments, which I have discussed from time to time.
When looking at how investments are performing throughout the world some may wonder about the benefit of international investing. An astute observer might note that there is already plenty of volatility in our market, and overseas markets are having even greater changes in their stock prices.
The best way to look at international investing is to differentiate between the short term and long term. In the short run, especially during volatile periods like the one we are currently in, markets tend to move together limiting the benefits to international investing. However, over longer periods of time there tends to be more variance of returns by country, which helps to reduce risk.
I have always advocated that someone who invests in the stock market should have a longer term outlook. On that basis international investing still is appropriate.
For those who have an international fund it has likely done worse than the U.S. market in recent years. However, there will be times again in the future when international investments will perform better than the U.S. market.
Over time U.S. companies have derived an ever increasing percentage of revenue and profits from overseas activities. On that basis someone with a purely domestic oriented portfolio is still obtaining some international exposure. Certainly someone does not have to have an international fund. However, with stock markets down across the world, I believe having a portion of one’s investments in an international fund is still appropriate.