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The advantage of geographical diversification

If you’d watched the recent strength of the Australian share market in isolation, you could easily be of the belief that the Australian market is a strong consistent performer. However, those who have watched the Australian market for a longer period of time will know that our index often enjoys periods of malaise and under-performance.

Take for example the above 10-year chart, which compares the performance of the XJO index of Australia’s 200 largest listed companies and the MSCI index of global share prices. Over the ten years, the Australian market has grown just over 40 percent, whilst the MSCI index has grown over 90 percent. If you factor in dividends to the above, the difference narrows a little, but the MSCI world index has enjoyed significant out-performance regardless.

There are many possible explanations for the out-performance, Australia’s economic growth has lagged behind global averages; our high dividend culture leaves less of the profits for reinve­­stment in business growth; and our high dollar has likely remained stronger than it otherwise would have been due to our resource exports (which is to the detriment of other exporters). On top of this, Australia also has high energy, labour, and logistics costs. The MSCI global index is also unlikely to be affected much by the politics or crises of our country.

It is for these reasons that we as investors decide to diversify our investment portfolios by also investing in overseas markets and assets, and as advisers, we suggest our clients do the same.

Probably the easiest and cheapest ways to gain overseas exposure is through the use of exchange traded funds (ETFs). ETFs are usually index tracking funds that trade (in our case) on the ASX. They can be used to gain exposure to Chinese share indexes, US share indexes, and many others. There are also global sector and theme funds, as well as actively managed international funds.

We also provide a portfolio service that offers complete portfolios constructed out of exchange-traded-funds, which we believe are a suitable way for most people to invest. A portfolio of ETFs allows you to gain geographical and asset class exposure for a reasonable price. Such a portfolio was historically not accessible to most retail investors and used to be in the realms of only the largest, wealthiest, and most sophisticated institutional investors.

That is why ETFs are rapidly changing the Australian investment landscape, and they will continue to do so.

If you are interested in using ETFs or building an ETF portfolio, please don’t hesitate to contact me on 03 8080 5777, or at sam.green@emeraldportfolio.com.au