International equities have been a recent disappointment to Australian investors. Relatively speaking, Australian equites have performed significantly better due to a range of factors such as the local market’s limited exposure to IT (post the tech bust), the strength of our economy, the steady rise of the Australian dollar against the greenback and a preference for the ‘safety’ of a known market compared to more tumultuous overseas investment battlegrounds.
“In addition, macro concerns such as the European debt crisis, spiraling US debt levels, rising raw materials and energy costs as well as the confluence of socio-political events such as the Japan earthquake and the Middle East turmoil have added to investors’ worries,” adds Brent Puff from American Century Investments.
But there are signs that international equities are coming back into favour thanks, in part, to some of the reasons why investors have recently stayed away from them.
Lonsec Senior Investment Consultant Lukasz de Pourbaix says institutional investors in particular have shown greater interest in the sector thanks to improving fundamentals in the US market. “A lot of companies have undertaken cost-cutting measures with top line earnings expected to improve,” he says. “Future growth expectations and valuations are reasonable.”
Advisers, de Pourbaix notes, need a little more convincing. “I wouldn’t say they’re increasingly allocating to the sector,” he says. “For planners and investors getting into the market post the tech bubble, their experience has been that Australian equities have outperformed.”
It might not be too long, however, before more advisers start capitalising on the opportunities international equity exposure can bring. BT Financial Group Chief Investment Officer Piers Bolger believes a decline in the allocation to global equities has stabilised because of the “advent of hedged global equity products that have allowed advisers to better position client portfolios”.
He agrees with de Pourbaix that an ever-improving outlook for the global economy is restoring confidence. “This should assist global corporate earnings, with the potential for higher earnings relative to Australian corporates,” Bolger says.
Valuations for high-quality international companies also add to the compelling case for international equities. Tim Meggitt, Zurich Investments Head of Key Accounts and Research, notes, "We’re beginning to see further increases in exposure to global equity markets across a range of clients’ portfolios as they begin to understand the strong valuations that they can source from most of the larger economies."
The high Aussie dollar, once a deterrent for international equity exposure, is now working in its favour, giving internationally-positioned investors more purchasing power. Should the dollar dip (and as Meggitt says “it’s unlikely the Australian dollar will perform as strongly as it has in recent times against the US dollar”), unhedged investors will receive a boost. Adds Bolger, “The return for local investors may also be higher if the Australian dollar depreciates somewhat over time.”
A word of warning, though, from Bolger, focus on the fundamentals not just the “buying opportunity”. He says “The issue is what negatives are there that will impact on the return of the underlying investments?
“However, if the broader macro outlook continues to improve and both developed and emerging markets move higher, combined with a weaker Australian dollar from its current levels, global equity returns for investors could be higher relative to other investments.”
A little good news from overseas markets will do a lot of good for the sector, according to de Pourbaix, “There are still issues in Europe and the US in terms of debt but if you have a period where the macro environment stabilises combined with solid returns, there will be more interest in international equities.”
For Puff, corporate earnings will be the “linchpin” to the sustainability of stock market gains. “We remain constructive on future earnings growth although we are watching the impact of rising costs on earnings. To date, most companies have been very successful in addressing higher input costs in various ways such as increasing prices outright to offsets via productivity improvements,” he says.
“Finally, stock market valuations have not risen to extreme levels and continue to appear inexpensive relative to historical trends and to global bonds. We remain comfortable with the prospects of international equities over the medium to long term.”
Note: Advice contained in this articler is general in nature and does not consider your personal situation or needs. Please do not act on this advice until its appropriateness has been determined by a qualified adviser. While the taxation implications of this strategy have been considered, we are not, nor do we purport to be registered tax agents. We strongly recommend you seek detailed tax advice from an appropriately qualified tax agent before proceeding. The information provided is current as at June 2011.