Remember The BRIC?

A Trip Down Memory Lane of One of the Worst Investing Themes of the 21^st Century.

As we finish out another volatile year, there must be some serious financial “soul searching” going on right now as many foreign-stock boosters have seen their foreign-stock funds plummet.

Just when global asset diversification should be working to reduce portfolio volatility, the biggest under performers since the COVID crises started have included the seasoned ETFs in celebrated developing countries (aka BRIC): Brazil (EWZ) EWZ -42%, Russia (RSX) 4%, India (PIN) 29% and China (FXI) FXI -16%. During this time, ETFs in the S&P 500 & Nasdaq 100 NDAQ posted gains of 43% & 81%. Simply put, “sink like a BRIC” takes on a whole new meaning as these investments are well below their record highs (See Charts)

I remember the “America is The Next Rome” pitch made by celebrated financial gurus over the last 20 years who insisted that holding stocks of the fast-growing BRIC countries will increase returns and reduce portfolio risk in the long term. It sounded judicious to own shares in overseas companies. So much so, that it has become financial dogma on Wall Street.

For example, in 2011 the widely respected American Association of Individual Investors Journal published a feature promoting the idea that investors should put money into foreign funds because they don’t “correlate” strongly to U.S. stocks and “over the past 10 years more than 80% of the world’s stock markets have outperformed the U.S. market.”

Like so many of Wall Street’s investing themes, the opposite turns out to be true!

According to our analysis, most foreign-stock exchange traded funds have been a poor hedge against swings in the U.S. stock market, and they’ve been sub-par performers since 2007. Worse yet, they charge higher annual fees of .68% versus .10%.

To conduct this analysis, I sifted through five performance figures to get an all-round picture of BRIC fund performance similar as to how an active money manager compares to a passive investment strategy. Bottom-line: As a group, these funds vastly underperformed U.S. Index funds (see table below).

So much for the promised global outperformance. But what about this idea that foreign ETFs will reduce your investment risk? After all, that is what the passive investing, “Pie-Chart Guys” say you must do to protect yourself from volatile swings in the U.S dollar and America’s other financial & social ailments.

A good way to measure investment risk is to look at “beta” statistics. That’s a measure of how a security or fund behaves day-to-day when the U.S. market rise and fall. A security that tracks the U.S. market exactly has a beta of 1.0. A security that exaggerates each up or down in the market has a beta greater than 1.0. One that tends to move with the market but in a muted way has a beta less than 1.0 but greater than 0.0. And a security that tends to move in the opposite direction of the market will have a beta of less than 0.0. 

According to Morningstar, the 10-year beta of the S&P 500 index funds is 1.00 and Nasdaq 100 is 1.01. Meanwhile, among the BRIC ETFs we studied, beta statistics ranged from 0.70 (FXI) to 1.76 (BWZ), and the average is 1.18. Bottom-line: as a group, these foreign stock funds had 18% MORE annual volatility than the major U.S. stock index funds.

More importantly, in the volatile years of 2008, 2011, 2015 and 2018, the ETFs in these four countries produced an average annualized total return (including dividends) of –39% while the S&P 500, which over the same years, generated a loss of 24%.

So much for the highly conveted investor “protection”!

The fact is, if you own large-cap U.S. stocks, you’re already heavily invested in the global economy. Standard & Poor’s reports that 48% of the 2020 revenues that poured into the coffers of the S&P 500 companies came from outside the U.S.

The “Buy American” theme holds true to investing!

If you want to wager on overseas economies, pick up shares in a high-grade U.S. company that derives a goodly portion of its revenue from outside the U.S.

You can start with low-cost index ETFs that track the S&P 500 or NASDAQ NDAQ . Then, consider picking up the handful of stocks in top performing U.S. companies that derive much of their revenue from foreign countries. If you’re over-concentrated in large-cap U.S. shares, there are better ways to diversify. Buy a low-cost fund that tracks S&P’s MidCap 400 or Russell Small Cap 2000 index.

I have found throughout my 30 years in money management that investment themes are popularized by Wall Street to sell new products, but time-tested common financial sense goes a long way to getting through Bull & Bear markets.

Today’s investors might want to consider this wisdom as they eagerly jump into new-age investments like “Crypto”.