international diversification: is it worth it?
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Sanford C. Bernstein & Co., LLC Controversies in Quantitative Finance and Asset Management | 2005 March 1, 2005 Pierre Hotel, New York. International Diversification: Is It Worth It?. Claude B. Erb Campbell R. Harvey Tadas E. Viskanta - PowerPoint PPT PresentationTRANSCRIPT
1
International Diversification: Is It Worth It?
Claude B. Erb Campbell R. Harvey Tadas E. ViskantaTCW, Duke University, Independent,Los Angeles, CA USA Durham, NC USA Chicago, IL USA NBER, Cambridge, MA USA
Sanford C. Bernstein & Co., LLCControversies in Quantitative Finance and Asset Management | 2005
March 1, 2005 Pierre Hotel, New York
2
3
Targeting The “Risk” of the MSCI World IndexDecember 1969 to January 2005
Asset Allocation Analysis Zephyr AllocationADVISOR: Trust Company of the West
Efficient FrontierReturn vs. Risk (Standard Deviation)
13 14 15 16 17 18 19 20 21 22 23 2410.5
11.0
11.5
12.0
12.5
13.0
Risk (Standard Deviation)
Ret
urn MSCI EAFE
MSCI EUROPEMSCI PACIFIC
MSCI THE WORLD INDEX
MSCI USA
Asset Allocations - Active PortfolioPercent of Portfolio
30.0%
48.9%
21.1%
MSCI EAFEMSCI EUROPEMSCI PACIFICMSCI THE WORLD INDEXMSCI USA
Portfolio Return: 12.17%Portfolio Standard Deviation: 14.52%
Tracking to Benchmark - Active PortfolioMSCI THE WORLD INDEX
6.6%
93.4%
R-Squared ResidualTracking Error: 3.76%
• The “optimal” portfolio is largely “foreign”
4
Targeting The “Risk” of the MSCI World IndexDecember 1987 to January 2005
• The “optimal” portfolio is largely domesticAsset Allocation Analysis Zephyr AllocationADVISOR: Trust Company of the West
Efficient FrontierReturn vs. Risk (Standard Deviation)
12 14 16 18 20 22 24 26 282
4
6
8
10
12
14
16
18
Risk (Standard Deviation)
Ret
urn
MSCI EAFE
MSCI EUROPE
MSCI PACIFIC
MSCI THE WORLD INDEX
MSCI USA
MSCI EM (EMERGING MA
Asset Allocations - Active PortfolioPercent of Portfolio
12.5%21.2%
66.3%
MSCI EAFEMSCI EUROPEMSCI PACIFICMSCI THE WORLD INDEXMSCI USAMSCI EM (EMERGING MA
Portfolio Return: 13.05%Portfolio Standard Deviation: 14.40%
Tracking to Benchmark - Active PortfolioMSCI THE WORLD INDEX
21.9%
78.1%
R-Squared ResidualTracking Error: 6.98%
5
Targeting The “Risk” Of The MSCI U.S. IndexDecember 1969 to January 2005
• The “optimal” portfolio has little U.S. exposure
Asset Allocation Analysis Zephyr AllocationADVISOR: Trust Company of the West
Efficient FrontierReturn vs. Risk (Standard Deviation)
13 14 15 16 17 18 19 20 21 22 23 2410.5
11.0
11.5
12.0
12.5
13.0
Risk (Standard Deviation)
Ret
urn MSCI EAFE
MSCI EUROPEMSCI PACIFIC
MSCI THE WORLD INDEX
MSCI USA
Asset Allocations - Active PortfolioPercent of Portfolio
9.0%
23.2%
67.8%
MSCI EAFEMSCI EUROPEMSCI PACIFICMSCI THE WORLD INDEXMSCI USA
Portfolio Return: 12.39%Portfolio Standard Deviation: 15.51%
Tracking to Benchmark - Active PortfolioS&P 500
45.8%54.2%
R-Squared ResidualTracking Error: 12.62%
6
Targeting The “Risk” Of The MSCI U.S. IndexDecember 1987 to January 2005
• The “optimal” portfolio has little “foreign” exposure
Asset Allocation Analysis Zephyr AllocationADVISOR: Trust Company of the West
Efficient FrontierReturn vs. Risk (Standard Deviation)
12 14 16 18 20 22 24 26 282
4
6
8
10
12
14
16
18
Risk (Standard Deviation)
Ret
urn
MSCI EAFE
MSCI EUROPE
MSCI PACIFIC
MSCI THE WORLD INDEX
MSCI USA
MSCI EM (EMERGING MA
Asset Allocations - Active PortfolioPercent of Portfolio
12.5%21.2%
66.3%
MSCI EAFEMSCI EUROPEMSCI PACIFICMSCI THE WORLD INDEXMSCI USAMSCI EM (EMERGING MA
Portfolio Return: 13.05%Portfolio Standard Deviation: 14.40%
Tracking to Benchmark - Active PortfolioS&P 500
9.5%
90.5%
R-Squared ResidualTracking Error: 4.50%
7
International Diversification – Is It Worth It?
Interesting question but …
what question is being asked?
• It is possible to parse this into at least four questions
– Does passive investment outside of your home market increase return?
– Does active investment outside of your home market increase return?
– Does passive investment outside of your home market reduce risk?
– Does active investment outside of your home market reduce risk?
• Let’s take a look at some answers
8
US Domestic Versus Foreign PerspectiveGrowth of $1December 1969 to January 2005
$1
$6
$11
$16
$21
$26
$31
$36
$41
$46
$51
1969
1970
1971
1972
1973
1974
1975
1976
1977
1978
1979
1980
1981
198219
8319
8419
8519
8619
8719
8819
8919
9019
9119
9219
9319
9419
9519
9619
9719
9819
9920
0020
0120
0220
0320
04
Gro
wth
of $
1
MSCI USA MSCI WORLD ex USA
Data Source: Morgan Stanley Capital International
• A U.S. investor might look at historical performance and wonder– Why invest in non-US equities?
9
The Allure Of Tactical AllocationU.S. Domestic/Foreign Tactical Asset AllocationDecember 1969 to January 2005
0%
5%
10%
15%
20%
25%
30%
1969
1970
1971
1972
1973
1974
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
US/
Non
-US
Trac
king
Erro
r
Data Source: Morgan Stanley Capital International
• A declining “domestic/foreign” tracking error suggests a reduced opportunity to add value from tactical allocation– Excess Return = Excess Return Ratio * Tracking Error
10
European Domestic Versus Foreign PerspectiveGrowth of $1December 1969 to January 2005
$1
$11
$21
$31
$41
$51
$61
1969
1970
1971
1972
1973
1974
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
Gro
wth
of $
1
MSCI Europe MSCI World Ex Europe
Data Source: Morgan Stanley Capital International
• A European investor might look at historical performance and wonder– Why invest in non-European equities?
11
The Allure Of Tactical AllocationEuropean Domestic/Foreign Tactical Asset AllocationDecember 1969 to January 2005
0%
5%
10%
15%
20%
25%
1969
1970
1971
1972
1973
1974
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
Eur
opea
n/N
on-E
urop
ean
Tra
ckin
g E
rror
Data Source: Morgan Stanley Capital International
• A declining “domestic/foreign” tracking error suggests a reduced opportunity to add value from tactical allocation
12
U.K. Domestic Versus Foreign PerspectiveGrowth of $1December 1969 to January 2005
$1
$11
$21
$31
$41
$51
$61
1969
1970
1971
1972
1973
1974
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
Gro
wth
of $
1
MSCI United Kingdom MSCI World Ex UK
Data Source: Morgan Stanley Capital International
• A U.K. investor might look at historical performance and wonder– Why invest in non-UK equities?
13
The Allure Of Tactical AllocationU.K. Domestic/Foreign Tactical Asset AllocationDecember 1969 to January 2005
0%
10%
20%
30%
40%
50%
60%
70%
1969
1970
1971
1972
1973
1974
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
U.K
./Non
-U.K
. Tra
ckin
g E
rror
Data Source: Morgan Stanley Capital International
• A declining “domestic/foreign” tracking error suggests a reduced opportunity to add value from tactical allocation
14
Japanese Versus Foreign PerspectiveGrowth of $1December 1969 to January 2005
$1
$11
$21
$31
$41
$51
$61
$71
1969
1970
1971
1972
1973
1974
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
Gro
wth
of $
1
MSCI JAPAN MSCI World Ex-Japan
Data Source: Morgan Stanley Capital International
• Even a Japanese investor might look at historical performance and wonder– Why invest in non-Japanese equities?
15
The Allure Of Tactical AllocationJapanese Domestic/Foreign Tactical Asset AllocationDecember 1969 to January 2005
0%
5%
10%
15%
20%
25%
30%
35%
40%
45%
1969
1970
1971
1972
1973
1974
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
Japa
n/N
on-J
apan
Tra
ckin
g E
rror
Data Source: Morgan Stanley Capital International
• A stable “domestic/foreign” tracking error suggests an unchanged opportunity to add value from tactical allocation
16
Maybe Sectors More Important Than Countries?
Annualized S&P 500 Tracking ErrorMSCI WRLD/ENERGY 14.94 MSCI AUSTRALIA 13.77MSCI WRLD/MATERIALS 13.36 MSCI AUSTRIA 19.04MSCI WRLD/INDUSTRIALS 8.01 MSCI BELGIUM 18.30MSCI WRLD/COMML SVC & SUPPL 10.29 MSCI CANADA 12.21MSCI WRLD/TRANSPORTATION 12.20 MSCI DENMARK 12.97MSCI WRLD/CONS DUR & APPAREL 14.04 MSCI EM (EMERGING MARKETS) 13.92MSCI WRLD/CONSUMER STAPLES 17.18 MSCI FRANCE 12.75MSCI WRLD/HEALTH CARE 16.07 MSCI GERMANY 17.84MSCI WRLD/FINANCIALS 9.54 MSCI HONG KONG 17.90MSCI WRLD/IT SVC 24.89 MSCI ITALY 16.97MSCI WRLD/TELECOM SVC 17.01 MSCI JAPAN 17.92MSCI WRLD/UTILITIES 16.09 MSCI NETHERLANDS 13.07
MSCI NORWAY 14.34MSCI SPAIN 15.24MSCI SWEDEN 22.44MSCI SWITZERLAND 13.74MSCI UNITED KINGDOM 9.07
Average 14.47 15.38
17
The Minimum Variance Portfolio Over Time
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1970
1972
1974
1976
1978
1980
1982
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
2004
US Portfolio Exposure Average
Rolling 12-month optimization.
18
Rolling Ten Year Total ReturnsDecember 1969 to January 2005
-10%
-5%
0%
5%
10%
15%
20%
25%
30%
35%
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
Rol
ling
Ten
Yea
r T
otal
Ret
urns
MSCI PACIFIC MSCI EUROPE MSCI JAPAN MSCI USA MSCI THE WORLD INDEX
Data Source: Morgan Stanley Capital International
MSCI PACIFIC MSCI EUROPE MSCI JAPAN MSCI USAReturn > MSCI World 60.60% 72.52% 60.93% 46.69%
19
Does passive investment outside of your home market reduce risk? Rolling Ten Year Standard Deviations Of Return ReturnsDecember 1969 to January 2005
-10%
-5%
0%
5%
10%
15%
20%
25%
30%
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
Rol
ling
Ten
Yea
r St
anda
rd D
evia
tion
MSCI PACIFIC MSCI EUROPE MSCI JAPAN MSCI USA MSCI THE WORLD INDEX
Data Source: Morgan Stanley Capital International
MSCI PACIFIC MSCI EUROPE MSCI JAPAN MSCI USARisk > MSCI World 100.00% 100.00% 100.00% 75.17%
20
Does passive investment outside of your home market reduce risk?Rolling Ten Year Sharpe RatiosDecember 1969 to January 2005
-0.6
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
1.2
1.4
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
Rol
ling
Ten
Yea
r Sh
arpe
Rat
io
MSCI PACIFIC MSCI EUROPE MSCI JAPAN MSCI USA MSCI THE WORLD INDEX
Data Source: Morgan Stanley Capital International
MSCI PACIFIC MSCI EUROPE MSCI JAPAN MSCI USASharpe Ratio > MSCI World 41.06% 64.57% 43.38% 43.71%
21
International Diversification – Is It Worth It?
While the U.S. is a smaller part of world market capitalization, correlations are high.
• We consider some alternative ways of considering correlation– Average returns based on U.S. up and down markets– Average returns based on quintiles of U.S. returns– Average returns in U.S. business cycle phases
22
Effect of US Equity Returns on Global Equity ReturnsJanuary 1970 to December 2004
-60%
-40%
-20%
0%
20%
40%
60%
Aust
ralia
Aust
ria
Belg
ium
Cana
da
Denm
ark
Fran
ce
Ger
man
y
Hong
Kon
g
Italy
Japa
n
Neth
erla
nds
Norw
ay
Spai
n
Swed
en
Switz
erla
nd
Unite
d Ki
ngdo
m
Unite
d St
ates
MSC
I THE
WO
RLD
INDE
X
MSC
I EAF
E
MSC
I WO
RLD
ex U
SA
MSC
I Kok
usai
MSC
I PAC
IFIC
MSC
I EUR
OPE
US UpUS Down
Data: Annualized MSCI Monthly Returns in excess of one month T-bill.
23
Effect of US Equity Returns on Global Equity Returns Developed Markets:January 1988 to December 2004
-60%
-40%
-20%
0%
20%
40%
60%
Austr
alia
Austr
ia
Belgi
um
Cana
da
Denm
ark
Finlan
d
Franc
e
Germ
any
Gree
ce
Hong
Kon
g
Irelan
d
Italy
Japa
n
Nethe
rland
s
New
Zeala
nd
Norw
ay
Portu
gal
Singa
pore
Spain
Swed
en
Switz
erlan
d
Unite
d Kin
gdom
Unite
d St
ates
MSCI
THE
WORL
D IND
EX
MSCI
EAFE
MSCI
ACWI
Fre
e
MSCI
World
Free
MSCI
WORL
D ex
USA
MSCI
EAFE
Free
MSCI
Pacifi
c Fre
e
MSCI
Pacifi
c Fre
e ex
Jap
an
MSCI
Koku
sai
MSCI
PACIF
IC
MSCI
EURO
PE
US UpUS Down
Data: Annualized MSCI Monthly Returns in excess of one month T-bill.
24
Effect of US Equity Returns on Global Equity Returns Emerging Markets:January 1988 to December 2004
-60%
-40%
-20%
0%
20%
40%
60%
Arg
entin
a
Bra
zil
Chi
le
Indo
nesi
a
Jord
an
Kor
ea
Mal
aysi
a
Mex
ico
Phili
ppin
es
Taiw
an
Thai
land
Turk
ey
Uni
ted
Stat
es
MSC
I EM
(EM
ERG
ING
MA
RK
ETS)
MSC
I AC
AM
ERIC
AS
MSC
I EM
ASI
A
MSC
I EM
FA
R E
AST
MSC
I EM
LA
TIN
AM
ERIC
A
US UpUS Down
Data: Annualized MSCI Monthly Returns in excess of one month T-bill.
25
Effect of US Equity Returns on Global Equity Returns January 1970 to December 2004
-90%-75%-60%-45%-30%-15%
0%15%30%45%60%75%90%
Aust
ralia
Aust
ria
Belg
ium
Cana
da
Denm
ark
Fran
ce
Ger
man
y
Hong
Kon
g
Italy
Japa
n
Neth
erla
nds
Norw
ay
Spai
n
Swed
en
Switz
erla
nd
Unite
d Ki
ngdo
m
Unite
d St
ates
MSC
I THE
WO
RLD
INDE
X
MSC
I EAF
E
MSC
I WO
RLD
ex U
SA
MSC
I Kok
usai
MSC
I PAC
IFIC
MSC
I EUR
OPE
Quintile 1Quintile 2Quintile 3Quintile 4Quintile 5
Data: MSCI Monthly Returns in excess of one month T-bill. January 1970-December 2004.
26
Effect of US Equity Returns on Global Equity Returns Developed Markets: January 1988 to December 2004
-90%-75%-60%-45%-30%-15%
0%15%30%45%60%75%90%
Austr
alia
Austr
ia
Belgi
um
Cana
da
Denm
ark
Finlan
d
Franc
e
Germ
any
Gree
ce
Hong
Kon
g
Irelan
d
Italy
Japa
n
Nethe
rland
s
New
Zeala
nd
Norw
ay
Portu
gal
Singa
pore
Spain
Swed
en
Switz
erlan
d
Unite
d Kin
gdom
Unite
d St
ates
MSCI
THE
WORL
D IND
EX
MSCI
EAFE
MSCI
ACWI
Fre
e
MSCI
World
Free
MSCI
WORL
D ex
USA
MSCI
EAFE
Free
MSCI
Pacifi
c Fre
e
MSCI
Pacifi
c Fre
e ex
Jap
an
MSCI
Koku
sai
MSCI
PACIF
IC
MSCI
EURO
PE
Quintile 1Quintile 2Quintile 3Quintile 4Quintile 5
Data: Annualized MSCI Monthly Returns in excess of one month T-bill.
27
Effect of US Equity Returns on Global Equity Returns Emerging Markets:January 1988 to December 2004
-90%-75%-60%-45%-30%-15%
0%15%30%45%60%75%90%
Arg
entin
a
Bra
zil
Chi
le
Indo
nesi
a
Jord
an
Kor
ea
Mal
aysi
a
Mex
ico
Phili
ppin
es
Taiw
an
Thai
land
Turk
ey
Uni
ted
Stat
es
MSC
I EM
(EM
ERG
ING
MA
RK
ETS)
MSC
I AC
AM
ERIC
AS
MSC
I EM
ASI
A
MSC
I EM
FA
R E
AST
MSC
I EM
LA
TIN
AM
ERIC
A
Quintile 1Quintile 2Quintile 3Quintile 4Quintile 5
Data: Annualized MSCI Monthly Returns in excess of one month T-bill.
28
Effect of US Economic Phase on Global Equity ReturnsJanuary 1970 to December 2004
-30%
-20%
-10%
0%
10%
20%
30%
Aust
ralia
Aust
ria
Belg
ium
Cana
da
Denm
ark
Fran
ce
Ger
man
y
Hong
Kon
g
Italy
Japa
n
Neth
erla
nds
Norw
ay
Spai
n
Swed
en
Switz
erla
nd
Unite
d Ki
ngdo
m
Unite
d St
ates
MSC
I THE
WO
RLD
INDE
X
MSC
I EAF
E
MSC
I WO
RLD
ex U
SA
MSC
I Kok
usai
MSC
I PAC
IFIC
MSC
I EUR
OPE
ExpansionRecession
Data: Annualized MSCI Monthly Returns in excess of one month T-bill. NBER dating.
29
Effect of US Economic Phase on Global Equity Returns Developed Markets: January 1988 to December 2004
-40%
-30%
-20%
-10%
0%
10%
20%
30%
40%
Aust
ralia
Aust
ria
Belg
ium
Cana
da
Denm
ark
Finl
and
Fran
ce
Ger
man
y
Gre
ece
Hong
Kon
g
Irela
nd
Italy
Japa
n
Neth
erla
nds
New
Zea
land
Norw
ay
Port
ugal
Sing
apor
e
Spai
n
Swed
en
Switz
erla
nd
Unite
d K
ingd
om
Unite
d St
ates
MSC
I THE
WO
RLD
IND
EX
MSC
I EA
FE
MSC
I AC
WI F
ree
MSC
I Wor
ld F
ree
MSC
I WO
RLD
ex
USA
MSC
I EA
FE F
ree
MSC
I Pac
ific
Free
MSC
I Pac
ific
Free
ex
Japa
n
MSC
I Kok
usai
MSC
I PA
CIFI
C
MSC
I EU
ROP
E
ExpansionRecession
Data: Annualized MSCI Monthly Returns in excess of one month T-bill. NBER dating.
30
Effect of US Economic Phase on Global Equity Returns Emerging Markets:January 1988 to December 2004
-40%
-30%
-20%
-10%
0%
10%
20%
30%
40%
Arg
entin
a
Bra
zil
Chi
le
Indo
nesi
a
Jord
an
Kor
ea
Mal
aysi
a
Mex
ico
Phili
ppin
es
Taiw
an
Thai
land
Turk
ey
Uni
ted
Stat
es
MSC
I EM
(EM
ERG
ING
MA
RK
ETS)
MSC
I AC
AM
ERIC
AS
MSC
I EM
ASI
A
MSC
I EM
FA
R E
AST
MSC
I EM
LA
TIN
AM
ERIC
A
ExpansionRecession
Data: Annualized MSCI Monthly Returns in excess of one month T-bill. NBER dating.
31
International Diversification – Is It Worth It?
But we know that the business cycle is to some degree predictable.
• U.S. yield curve predicts business cycle phases– Average returns based on U.S. inverted or normal yield curve– Average returns based on shape of yield curve
32
Yield Curve Inverts Before Last Six Recessions(5-year Treasury note minus 3-month Treasury bill yield)
-6
-4
-2
0
2
4
6
8
1969
1971
1973
1975
1977
1979
1981
1983
1985
1987
1989
1991
1993
1995
1997
1999
2001
2003
2005
% Real annual GDP growth
Yield curve
RecessionCorrect 2 Recessions
Correct
RecessionCorrect Yield curve accurate
in recent forecastRecessionCorrect
Annual GDP growthor Yield Curve %
Data though January 2005
Source: Campbell R. Harvey. Update of Harvey (1986, 1988, 1989).
33
Effect of US Yield Curve on Global Equity ReturnsJanuary 1970 to December 2004
-40%
-30%
-20%
-10%
0%
10%
20%
30%
Aust
ralia
Aust
ria
Belg
ium
Cana
da
Denm
ark
Fran
ce
Ger
man
y
Hong
Kon
g
Italy
Japa
n
Neth
erla
nds
Norw
ay
Spai
n
Swed
en
Switz
erla
nd
Unite
d Ki
ngdo
m
Unite
d St
ates
MSC
I THE
WO
RLD
INDE
X
MSC
I EAF
E
MSC
I WO
RLD
ex U
SA
MSC
I Kok
usai
MSC
I PAC
IFIC
MSC
I EUR
OPE
PositiveInverted
Data: Annualized MSCI Monthly Returns in excess of one month T-bill. Yield Curve=10 Year-3 Month Treasuries, one month lagged.
34
Effect of US Yield Curve on Global Equity Returns Emerging Markets:
January 1988 to December 2004
-50%
-40%
-30%
-20%
-10%
0%
10%
20%
30%
Arg
entin
a
Bra
zil
Chi
le
Indo
nesi
a
Jord
an
Kor
ea
Mal
aysi
a
Mex
ico
Phili
ppin
es
Taiw
an
Thai
land
Turk
ey
Uni
ted
Stat
es
MSC
I EM
(EM
ERG
ING
MA
RK
ETS)
MSC
I AC
AM
ERIC
AS
MSC
I EM
ASI
A
MSC
I EM
FA
R E
AST
MSC
I EM
LA
TIN
AM
ERIC
A
PositiveInverted
Data: Annualized MSCI Monthly Returns in excess of one month T-bill. Yield Curve=10 Year-3 Month Treasuries, one month lagged
35
Effect of US Yield Curve on Global Equity ReturnsJanuary 1970 to December 2004
-20%
-10%
0%
10%
20%
30%
40%
Aust
ralia
Aust
ria
Belg
ium
Cana
da
Denm
ark
Fran
ce
Ger
man
y
Hong
Kon
g
Italy
Japa
n
Neth
erla
nds
Norw
ay
Spai
n
Swed
en
Switz
erla
nd
Unite
d Ki
ngdo
m
Unite
d St
ates
MSC
I WO
RLD
INDE
X
MSC
I EAF
E
MSC
I WO
RLD
ex U
SA
MSC
I Kok
usai
MSC
I PAC
IFIC
MSC
I EUR
OPE
InvertedFlatAverageUpwardSteep
Data: Annualized MSCI Monthly Returns in excess of one month T-bill. Yield Curve=10 Year-3 Month Treasuries, one month lagged
36
International Diversification – Is It Worth It?
Conclusions
• For a U.S. investor, the strategic case for international diversification has been oversold
• While tactical opportunities are diminishing through time, there is still plenty of opportunity to enhance portfolio returns by active management using international equities.