Rick’s book “All About Asset Allocation” shows that a fixed combination of the components of EAFE, namely EAFE Pacific and EAFE Europe (annually rebalanced) had a higher annualized return than EAFE itself from 1970 to 2004 (pg. 120). The reason: the individual Europe and Pacific returns had low correlation over the period (e.g. the Pacific share of EAFE shifted from about 30% in 1970 to 70 percent in 1998, then back to about 30 percent by 2004 – annual rebalancing would have acted to sell 'regions' high and buy them low). As I understand this potential ‘rebalancing return’ is one of the reasons Rick recommends a separate allocation to Europe and Pacific rather than just holding EAFE (and for his preference for the country-weighting-capped DFA EM fund).
I find similar results with the EAFE Value indexes (table below). Fixed combinations of EAFE value components have higher annualized return with similar risk (Standard deviation) over the 1975-2008 period than the EAFE value index itself. Seems to suggest a region/country rebalancing return over this period.
However, unlike the EAFE market series, its not currently possible to hold separate fixed allocations of an EAFE Pacific value fund and an EAFE Europe value fund as no index funds exist that track these respective series.
The RAFI international index seems to offer an interesting alternative. Arnott breaks down the country component shares of a global RAFI index over the period 1985-2007 (pg. 126-27 of his Fundamental Index book). The country shares are much more stable than cap-weighted shares (including cap-weighted market and value shares) [“more stability and much tighter ranges”]. Arnott suggests in the book that country rebalancing added about 0.7% annualized to the global ex-US fundamental index over the period. To me this suggests that a RAFI intl index tracking fund i.e. the Powershares FTSE RAFI Developed Market ex-US Portfolio offers the potential rebalancing returns (in one fund). IMO this likely added to the RAFI Intl excess return of 1.6% (12.2 – 10.6) over the EAFE value index return between 1984-2008 (table below).
Code: Select all
25:25:25:25
UK Value
50:50 Europe ex UK Value
EAFE Europe Value Japan Value RAFI
EAFE Value Pacific Value Pacific ex Japan Intl
1975-2008
Ann. Return, % 10.3 12.1 12.5 13.3 -
Std Dev 22.6 23.0 22.7 22.5 -
1984-2008
Ann. Return, % 8.9 10.6 10.9 11.2 12.2
Std Dev 25.0 25.7 25.3 23.7 24.1
Source: Derived from MSCI and Powershares website, and Arnott's book.
.