International Stock Diversification — A New Look

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International Stock Diversification — A New Look

Post by SimpleGift » Mon Nov 10, 2014 1:21 am

As we all know, with increasing globalization and the rise of multinationals, companies today are providing more and more goods and services to customers beyond their home country. However, traditional stock indexes still use the country of domicile and primary listing to assign each company to a specific country. This post doesn't take issue with the country-of-domicile approach to indexing — but it does look deeper into the economic exposure for investors that results from the current cap-weighted stock indexes.

One measure of economic exposure for index investors is corporate revenues. In the three pie charts below, we see the sources of corporate revenue, by geographic region, for various allocations to U.S. and International cap-weighted stock indexes. For example, the chart at left shows the revenue exposure for a 100% U.S. stock investor, while the chart at right shows the revenue sources for a 50% U.S./50% International stock investor (which are roughly the current global cap-weights):
After assembling the data, I was surprised to see the overall amount of foreign revenue exposure that one has after even a modest allocation to international stocks. For instance, an investor with a 70% U.S./30% International stock mix (table below) has only about a 40% revenue exposure to the U.S. economy and a 60% exposure to international economies, including a 26% exposure to emerging markets:
  • Revenue Exposure — Various Mixes of U.S. and Intl Cap-weighted Stock Indexes, 2012-13
    Image
This is not meant to suggest that U.S. investors should reduce their international stock allocations, as there are good reasons to include foreign-domiciled companies in one's equity portfolio — it's just a fresh way of looking at international stock diversification in today's global economy. Your thoughts?
Last edited by SimpleGift on Thu Sep 17, 2015 5:20 pm, edited 1 time in total.

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Re: International Stock Diversification — A New Look

Post by kenner » Mon Nov 10, 2014 5:33 am

Simplegift,

Thank you for the excellent post. Even though I'm not quite sure what to make of this data, it is an eye-opener.

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Re: International Stock Diversification — A New Look

Post by in_reality » Mon Nov 10, 2014 5:41 am

Simplegift wrote: 
After assembling the data, I was surprised to see the overall amount of foreign revenue exposure that one has after even a modest allocation to international stocks. For instance, an investor with a 70% U.S./30% International stock mix (table below) has only about a 40% revenue exposure to the U.S. economy and a 60% exposure to international economies, including a 26% exposure to emerging markets:
Ok but is that data accurate? I mean we know multinationals will use tax-havens to shelter money when they can. Is it always the case that revenue attributed to someplace is actually generated there? Maybe people in Ireland really do buy that many apple computers and iPhones but ...

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Re: International Stock Diversification — A New Look

Post by larryswedroe » Mon Nov 10, 2014 7:53 am

The research shows (logically) that the biggest benefits of international investing come from small, not large, stocks. Yet most investors ignore the international small stocks.
Larry

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Re: International Stock Diversification — A New Look

Post by nisiprius » Mon Nov 10, 2014 8:25 am

My thought is that this is a really interesting finding, and a good example of what I've noticed myself: the usual "rationales" that supposedly explain why one should invest in particular assets classes or, dare I say it, products, are mostly in the nature of marketing slogans--a little kernel of partial truth that sounds good, and get amped up based on whether they are convincing, not whether they are robust or reliable.

As you say, what you have found is not a good reason to reduce international allocation--just as "the economies of emerging markets are a bigger percentage of the world economy than they are in your portfolio" a reason to increase them. What it really shows is that one should not be too certain what your mix really is, because it is not at all clear what the right measuring stick ought to be.
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Re: International Stock Diversification — A New Look

Post by Rick Ferri » Mon Nov 10, 2014 8:37 am

The data appears to be going only in one direction. What's seems to be missing is the percentage of revenue generated by international companies in US sales. The data would look quite different if international sales in the US was included.

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Re: International Stock Diversification — A New Look

Post by Traveller » Mon Nov 10, 2014 8:54 am

Rick Ferri wrote:The data appears to be going only in one direction. What's seems to be missing is the percentage of revenue generated by international companies in US sales. The data would look quite different if international sales in the US was included.

Rick Ferri
This was my thought as well. I think the message will be a bit more balanced when you net this picture with the other side (the revenue from international domiciled companies derived from domestic sales).

My other thought was that, while this is a very interesting view, I am not sure it concerns me very much since many US companies who derive revenue from other country sources are very opportunistic. That is to say that if a certain foreign revenue source declines, they will look elsewhere for the revenue.

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Re: International Stock Diversification — A New Look

Post by SimpleGift » Mon Nov 10, 2014 9:59 am

Rick Ferri wrote:The data appears to be going only in one direction. What's seems to be missing is the percentage of revenue generated by international companies in US sales. The data would look quite different if international sales in the US was included.
Traveller wrote:This was my thought as well. I think the message will be a bit more balanced when you net this picture with the other side (the revenue from international domiciled companies derived from domestic sales).
No, the data includes revenue generated by international companies in U.S. sales. It's a net picture of ALL global sales by ALL global companies — that is, those listed companies that are in the U.S. and International cap-weighted stock indexes. Here's an example of how the data is broken down for several large, developed countries:

Image
Source: The Economist

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Re: International Stock Diversification — A New Look

Post by Rick Ferri » Mon Nov 10, 2014 10:02 am

A simple way to avoid all the confusion is the buy VT, the Vanguard Total World Stock ETF.

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Re: International Stock Diversification — A New Look

Post by abuss368 » Mon Nov 10, 2014 10:08 am

Rick Ferri wrote:The data appears to be going only in one direction. What's seems to be missing is the percentage of revenue generated by international companies in US sales. The data would look quite different if international sales in the US was included.

Rick Ferri
Hi Rick,

I liked the original post and thought overall it was a good analysis, however the data was in one direction. I do feel that the "traditional" strategy of 70% US and 30% International is heading in one direction - that is an increase in the international allocation. I would not be surprised to see a 35% or 40% international allocation from Vanguard next in terms of recommendations and Target/Life Strategy funds.

Best.
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Re: International Stock Diversification — A New Look

Post by abuss368 » Mon Nov 10, 2014 10:09 am

Forget my prior post as the data does include both directions!

Nice analysis!

Thanks!
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Re: International Stock Diversification — A New Look

Post by SimpleGift » Mon Nov 10, 2014 10:18 am

in_reality wrote:Ok but is that data accurate? I mean we know multinationals will use tax-havens to shelter money when they can. Is it always the case that revenue attributed to someplace is actually generated there? Maybe people in Ireland really do buy that many apple computers and iPhones but ...
From what I can tell, the data is quite crude. For example, S&P Research produces a report each year on global sales for its S&P 500 constituent companies. They note that over half the companies in the index do not report sufficient information to completely determine their global sales. So they estimate, interpolate and do a lot of guessing, it appears.

That said, even if the data only provides a rough picture of global revenues, it's still helpful to investors for better understanding their international stock diversification and economic exposure, I feel. As the global economy becomes more integrated, country-of-domicile becomes a less useful concept for most stock investors.

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Re: International Stock Diversification — A New Look

Post by Traveller » Mon Nov 10, 2014 10:41 am

Simplegift wrote: No, the data includes revenue generated by international companies in U.S. sales. It's a net picture of ALL global sales by ALL global companies — that is, those listed companies that are in the U.S. and International cap-weighted stock indexes
Ahh, thank you for the clarification!

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Re: International Stock Diversification — A New Look

Post by Coles » Mon Nov 10, 2014 12:11 pm

Simplegift wrote:Revenue Exposure — Various Mixes of U.S. and Intl Cap-weighted Stock Indexes, 2012-13
Image
So 100% US has 60% revenue exposure to the US, but 50/50 has 28% revenue exposure to the US?
International would need to have negative revenue exposure to the US for that to be true.

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Re: International Stock Diversification — A New Look

Post by SimpleGift » Mon Nov 10, 2014 12:31 pm

Coles wrote:So 100% US has 60% revenue exposure to the US, but 50/50 has 28% revenue exposure to the US?
International would need to have negative revenue exposure to the US for that to be true.
Not exactly. The U.S. is certainly a big market for U.S. companies (60% of revenue), but it's not such a big market for international companies in aggregate (only about 20% of revenue or less, see the blue chart upthread from The Economist). As an investor tilts their equity portfolio more and more towards international stocks, the overall percentage of revenue derived from the U.S. economy declines accordingly. At global market cap weights, the U.S. is the source of only 28% of total revenues — even though it's 50% of market cap.

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Re: International Stock Diversification — A New Look

Post by SimpleGift » Mon Nov 10, 2014 12:54 pm

kenner wrote:Even though I'm not quite sure what to make of this data, it is an eye-opener.
To be honest, I'm not quite sure what to make of this data either. Over the years, I've slowly increased my international stock allocation to the point where I'm currently at 60% U.S./40% International. Looking at the revenue exposure breakdown for this allocation in the OP, I'm about one-third exposed to the U.S. economy, one-third exposed to the emerging market economies and one-third to other developed economies (Europe, Japan, etc.).

This feels like a good apportionment of my equity portfolio — and it convinces me that I certainly don't need to increase my international allocation any further. Given today's relative economic growth rates, I'd expect that the emerging markets revenue exposure will increase with time (in everyone's equity portfolio), at the expense of Europe and Japan — with the U.S. revenue exposure perhaps increasing slightly or remaining about the same.
Last edited by SimpleGift on Mon Nov 10, 2014 1:30 pm, edited 1 time in total.

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Re: International Stock Diversification — A New Look

Post by Anon1234 » Mon Nov 10, 2014 1:01 pm

Simplegift wrote:
Coles wrote:So 100% US has 60% revenue exposure to the US, but 50/50 has 28% revenue exposure to the US?
International would need to have negative revenue exposure to the US for that to be true.
Not exactly. The U.S. is certainly a big market for U.S. companies (60% of revenue), but it's not such a big market for international companies in aggregate (only about 20% of revenue or less, see the blue chart upthread from The Economist). As an investor tilts their equity portfolio more and more towards international stocks, the overall percentage of revenue derived from the U.S. economy declines accordingly. At global market cap weights, the U.S. is the source of only 28% of total revenues — even though it's 50% of market cap.
I think this happens because the international stocks have more revenue per market cap than the US stocks do.
Last edited by Anon1234 on Mon Nov 10, 2014 1:04 pm, edited 1 time in total.

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Re: International Stock Diversification — A New Look

Post by Coles » Mon Nov 10, 2014 1:02 pm

Simplegift wrote:
Coles wrote:So 100% US has 60% revenue exposure to the US, but 50/50 has 28% revenue exposure to the US?
International would need to have negative revenue exposure to the US for that to be true.
Not exactly. The U.S. is certainly a big market for U.S. companies (60% of revenue), but it's not such a big market for international companies in aggregate (only about 20% of revenue or less, see the blue chart upthread from The Economist). As an investor tilts their equity portfolio more and more towards international stocks, the overall percentage of revenue derived from the U.S. economy declines accordingly. At global market cap weights, the U.S. is the source of only 28% of total revenues — even though it's 50% of market cap.
Let me ask it another way:
At 100% US, I have 60% revenue exposure to the US.
I go to 50% US / 50% Cash ---> now I have 30% exposure.
How does 50% US / 50% Int give me 28% exposure?

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Re: International Stock Diversification — A New Look

Post by rob » Mon Nov 10, 2014 1:03 pm

Interesting... although profit (after tax etc.) rather than raw revenue would be a more interesting. I think it's just a reminder that there are eleventy-million measures that might make sense and the traditional ones are just a set of possible measures rather than the only ones.
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Re: International Stock Diversification — A New Look

Post by SimpleGift » Mon Nov 10, 2014 1:10 pm

Coles wrote:Let me ask it another way:
At 100% US, I have 60% revenue exposure to the US.
I go to 50% US / 50% Cash ---> now I have 30% exposure.
How does 50% US / 50% Int give me 28% exposure?
No, the equity portion of your portfolio still has 60% revenue exposure to the U.S. economy. Look again at the pie charts in the OP — the total U.S. portfolio (on the left) and the global market-cap portfolio (on the right) are just two poles of many possible portfolios in between. The more one moves to the left, the U.S. revenue exposure increases, the more one moves to the right, the U.S. exposure decreases — remembering that the numbers are a percentage breakdown of the total portfolio revenues.

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Re: International Stock Diversification — A New Look

Post by Hank Moody » Mon Nov 10, 2014 1:23 pm

I'm not following your rationale. Shouldn't 50% international be more than 30% US revenue, given that non-US companies export to the US?

Also, what's missing from this analysis is the cost side of the equation. Don't we have to consider where companies source their products and labor costs?
Simplegift wrote:
Coles wrote:So 100% US has 60% revenue exposure to the US, but 50/50 has 28% revenue exposure to the US?
International would need to have negative revenue exposure to the US for that to be true.
Not exactly. The U.S. is certainly a big market for U.S. companies (60% of revenue), but it's not such a big market for international companies in aggregate (only about 20% of revenue or less, see the blue chart upthread from The Economist). As an investor tilts their equity portfolio more and more towards international stocks, the overall percentage of revenue derived from the U.S. economy declines accordingly. At global market cap weights, the U.S. is the source of only 28% of total revenues — even though it's 50% of market cap.
-HM

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Re: International Stock Diversification — A New Look

Post by nervousnovice » Mon Nov 10, 2014 1:39 pm

just want to say that this is another excellent thread. thanks for initiating it with the analysis, simplegift.

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Re: International Stock Diversification — A New Look

Post by SimpleGift » Mon Nov 10, 2014 1:46 pm

Hank Moody wrote:I'm not following your rationale. Shouldn't 50% international be more than 30% US revenue, given that non-US companies export to the US?
Maybe it will help to just start with the global market-cap portfolio as the baseline (shown below, and in the pie chart on the right in the OP), instead of the all-U.S. stock portfolio. For example, if one invests entirely in Vanguard's Total World Stock Index, then the current breakdown of revenue exposure for that portfolio is roughly as shown below — 28% of the revenue total from the U.S., which also has about a 50% market cap. Any tilts to more or less U.S. stock in one's portfolio will change the U.S. revenue exposure of that portfolio, up or down.

Image
Source: Blackrock

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Re: International Stock Diversification — A New Look

Post by Johno » Mon Nov 10, 2014 2:07 pm

Simplegift wrote:
in_reality wrote:Ok but is that data accurate? I mean we know multinationals will use tax-havens to shelter money when they can. Is it always the case that revenue attributed to someplace is actually generated there? Maybe people in Ireland really do buy that many apple computers and iPhones but ...
From what I can tell, the data is quite crude. For example, S&P Research produces a report each year on global sales for its S&P 500 constituent companies. They note that over half the companies in the index do not report sufficient information to completely determine their global sales. So they estimate, interpolate and do a lot of guessing, it appears.

That said, even if the data only provides a rough picture of global revenues, it's still helpful to investors for better understanding their international stock diversification and economic exposure, I feel. As the global economy becomes more integrated, country-of-domicile becomes a less useful concept for most stock investors.
I agree it's an interesting very rough picture, but the roughness is probably great enough to be important to making any decision based on it. There's also the fact that 'sales' in different countries are often at systematically different levels of the value chain in today's globally integrated economy. Thinking of 60% 'as we sell 60% of given model of the same widget in US stores and 40% in other country stores', even if the numbers are wholly reliable, might be a misleading way to think of it.

Also of course stock values are more a product of profit than revenue. And diversification can mean diversifying how the market values profit. So the fact that you may be paying twice as much for $1 of US company earnings as say German company earnings, on a PE10 basis at least, is an inherent element of your diversification IMO, not just the fact that the US companies operate in different markets on average than the German ones on a revenue basis overall. And they might be in a systematically different mix of businesses as well. Huge as the US economy and stock market is, as the world gets more specialized US companies are more tilted to certain industries and less well represented in others.

Note, I'm not saying the high valuation relative to own historical metrics of US stocks compared to the generally more average or low valuations of foreign stocks compared to their historicals means that foreign must beat US stocks from here (US has been more expensive for awhile in recent years and still pulling further away from foreign). But it is another element of diversification IMO, and I think probably at least as important as diversifying nominal estimated revenue by country.
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Re: International Stock Diversification — A New Look

Post by rustymutt » Mon Nov 10, 2014 2:13 pm

larryswedroe wrote:The research shows (logically) that the biggest benefits of international investing come from small, not large, stocks. Yet most investors ignore the international small stocks.
Larry
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Re: International Stock Diversification — A New Look

Post by backpacker » Mon Nov 10, 2014 2:42 pm

Simplegift wrote:
Coles wrote:Let me ask it another way:
At 100% US, I have 60% revenue exposure to the US.
I go to 50% US / 50% Cash ---> now I have 30% exposure.
How does 50% US / 50% Int give me 28% exposure?
No, the equity portion of your portfolio still has 60% revenue exposure to the U.S. economy. Look again at the pie charts in the OP — the total U.S. portfolio (on the left) and the global market-cap portfolio (on the right) are just two poles of many possible portfolios in between. The more one moves to the left, the U.S. revenue exposure increases, the more one moves to the right, the U.S. exposure decreases — remembering that the numbers are a percentage breakdown of the total portfolio revenues.
Colee is right. Something weird is going on. Suppose international has no US revenue. The 50/50 portfolio would then have 60(.5)+0(.5)=30% US revenue. The 50/50 chart says that it has 28%. But international companies do have US revenue exposure, so the number has to be higher than 30%.

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Re: International Stock Diversification — A New Look

Post by Steven28 » Mon Nov 10, 2014 3:16 pm

this is all very interesting. a lot of good insights. I guess when I buy a US large cap company / mutual fund with a global presence, I know i am also getting the effects, good and bad, of international markets as dictated by local economies through those companies with a global presence. This is very different from buying an international fund, which has companies that may or maynot have markets in the US. I buy the international fund primarily because I want to have foreign stock exposure, and to a lesser extent because I want foreign country exposure. I get foreign country exposure through my US mega cap companies.

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Re: International Stock Diversification — A New Look

Post by SimpleGift » Mon Nov 10, 2014 3:22 pm

backpacker wrote:Colee is right. Something weird is going on. Suppose international has no US revenue. The 50/50 portfolio would then have 60(.5)+0(.5)=30% US revenue. The 50/50 chart says that it has 28%. But international companies do have US revenue exposure, so the number has to be higher than 30%.
I believe you folks are confusing market cap and revenue exposure as if there is a straight line, 1:1 relationship between the two. The baseline global market-cap portfolio starts with a 28% revenue exposure to the U.S. economy — see the two Blackrock pie charts upthread, which compare the cap-weights of the MCSI All-Country World Index with its geographic revenue exposures.

Then, as one substitutes more and more U.S. stock for international stock in the equity portfolio, the revenue exposure to the U.S. economy increases, from 28% all the way up to 60% with an all-U.S. stock portfolio. I'm not seeing the problem here — as it's just a simple substitution of international stocks (that have a low revenue exposure to the U.S., at <20%)) with U.S. stocks (that have a high revenue exposure to the U.S., at 60%) across the various sample portfolios.
Last edited by SimpleGift on Mon Nov 10, 2014 4:09 pm, edited 2 times in total.

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Re: International Stock Diversification — A New Look

Post by Chan_va » Mon Nov 10, 2014 3:28 pm

backpacker wrote:
Simplegift wrote:
Coles wrote:Let me ask it another way:
At 100% US, I have 60% revenue exposure to the US.
I go to 50% US / 50% Cash ---> now I have 30% exposure.
How does 50% US / 50% Int give me 28% exposure?
No, the equity portion of your portfolio still has 60% revenue exposure to the U.S. economy. Look again at the pie charts in the OP — the total U.S. portfolio (on the left) and the global market-cap portfolio (on the right) are just two poles of many possible portfolios in between. The more one moves to the left, the U.S. revenue exposure increases, the more one moves to the right, the U.S. exposure decreases — remembering that the numbers are a percentage breakdown of the total portfolio revenues.
Colee is right. Something weird is going on. Suppose international has no US revenue. The 50/50 portfolio would then have 60(.5)+0(.5)=30% US revenue. The 50/50 chart says that it has 28%. But international companies do have US revenue exposure, so the number has to be higher than 30%.
I could be wrong, but I think the issue is that the cap weighting is not revenue weighting. Given that you have US stocks typically priced higher for the equivalent earnings compared to international, you could have

Company A (US): Market cap 100, Revenue: $6 US, $4 International
Company B (Intnl): Market cap 100, Revenue: $1 US, $14 International

If you held 1 share each of A and B, You would be 50:50 in terms of cap weighting, but your revenue % of US would be (6+1)/(6+1+4+14) = 28%
If you held only Company A, you would be 100% US by cap, but 60% by revenue.

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Re: International Stock Diversification — A New Look

Post by backpacker » Mon Nov 10, 2014 3:49 pm

^ Ah, that's it. Thanks for sorting this out!

This raise a question about how best to think about revenue diversification. Say that I buy company A for $10 and that it has $4 in international revenue. I also buy company B for $10 and it has $1 of US revenue. Is the resulting portfolio tilted towards international?

On one way of thinking, yes. 80% of the revenue comes from international sources after all! On another way of thinking, no. The performance of half my portfolio (the first $10) hangs on international revenue and the performance of the other half (the second $10) hangs on domestic revenue.

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Re: International Stock Diversification — A New Look

Post by ray.james » Mon Nov 10, 2014 6:34 pm

This is a very interesting post. Really makes me question my allocation. I use 50%/50%.
I would hope/expect that US revenue impact is atleast 40%; going by matketcap distribution of USA among total invest-able market :?
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Re: International Stock Diversification — A New Look

Post by Angst » Mon Nov 10, 2014 6:45 pm

Chan_va wrote:I could be wrong, but I think the issue is that the cap weighting is not revenue weighting. Given that you have US stocks typically priced higher for the equivalent earnings compared to international, you could have

Company A (US): Market cap 100, Revenue: $6 US, $4 International
Company B (Intnl): Market cap 100, Revenue: $1 US, $14 International

If you held 1 share each of A and B, You would be 50:50 in terms of cap weighting, but your revenue % of US would be (6+1)/(6+1+4+14) = 28%
If you held only Company A, you would be 100% US by cap, but 60% by revenue.
Hey, this was fun!
Nice job Chan_va on ferreting out a solution.

I might add that this also leads to the following percentages for an all-Int'l portfolio:
US Sourced Revenue: 06.7% = 1/(1+14)
Intl Sourced Revenue: 93.3% = 14/(1+14)

Now if there had also been a 100% International pie graph included in the OP with these percentages, I wonder how this thread might have unfolded. Perhaps not as fun.

Still, one unanswered question persists: What are the true numbers for an all-international portfolio? Are these the right percentages? Did the Economist or Blackrock include them?

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Re: International Stock Diversification — A New Look

Post by SimpleGift » Mon Nov 10, 2014 7:03 pm

Angst wrote:Still, one unanswered question persists: What are the true numbers for an all-international portfolio? Are these the right percentages? Did the Economist or Blackrock include them?
I've looked, Angst, but I've not been able to find those revenue numbers in published reports. Neither of the original sources of data had them. Realistically, I can't imagine there are many U.S. investors with a 100% international stock portfolio (and a 0% US allocation!) — or even a greater than 50% International allocation — but I'll keep looking and see what turns up.

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Re: International Stock Diversification — A New Look

Post by stemikger » Mon Nov 10, 2014 7:12 pm

I have been investing for 20 years now and other than for a short period of thinking I needed to, I do not invest directly in an international fund and so far, I don't feel like I'm missing out. Jack has said numerous times one can do very well holding the Vanguard Balanced Index Fund and that is all they need.
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Angst
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Re: International Stock Diversification — A New Look

Post by Angst » Mon Nov 10, 2014 7:21 pm

Simplegift wrote:
Angst wrote:Still, one unanswered question persists: What are the true numbers for an all-international portfolio? Are these the right percentages? Did the Economist or Blackrock include them?
I've looked, Angst, but I've not been able to find those revenue numbers in published reports. Neither of the original sources of data had them. Realistically, I can't imagine there are many U.S. investors with a 100% international stock portfolio (and a 0% US allocation!) — or even a greater than 50% International allocation — but I'll keep looking and see what turns up.
Thanks Simplegift, and thank you for the interesting thread. I agree, 100% International is really just an academic exercise here, but it would be interesting to know the data, if for no other reason than to corroborate Chan_va's insight.

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Robert T
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Re: International Stock Diversification — A New Look

Post by Robert T » Tue Nov 11, 2014 2:36 am

.
Interesting data.

Here's another analysis which suggests the following: https://www.mfs.com/subs/home-microsite ... alysis.pdf

Company revenues outside of home region (approximate):
~55% for Developed Europe
~35% for North America
~35% for Asia Pacific ex Japan
~34% for Japan
~19% for Emerging markets

Their analysis shows that the MSCI World Index 'indirect' exposure (through revenues) to emerging markets is 19%.

The question then seems to be: does country of domicile or source of revenues show up more in the risk/return characteristics of individual indexes.

Here's a comparison between three MSCI indexes over a period when EM did extremely well.

May 2002 to February 2007 - annualized returns

+11.6% = MSCI World with Developed Market Exposure (top ranked constituents derive highest proportion of revenue from developed markets)
+11.9% = MSCI World with Emerging Market Exposure (top ranked constituents derive highest proportion of revenue from emerging markets)
+25.1% = MSCI Emerging Markets

Presumably MSCI World "with Developed Market exposure" had much lower exposure to emerging markets than MSCI World "with Emerging Market exposure", yet the returns over this period were almost the same (11.6% vs. 11.9%), in comparison to the MSCI Emerging Market index which was almost 2.5 times higher (25.1%). There has been more divergence in the MSCI World indexes since then.

Not sure how this factors into regional considerations for asset allocation, but don't think we need to throw 'country of domicile' out the window just yet (I don't intend to make any changes). Will be interesting to see more analysis.

Robert
.

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packer16
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Re: International Stock Diversification — A New Look

Post by packer16 » Tue Nov 11, 2014 7:15 am

This is interesting data but it primarily addresses the fundamental aspect of international diversification. There is also a behavioral aspect, how folks in other countries translate the fundamentals into stock prices, that is only available via buying foreign stocks.

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Re: International Stock Diversification — A New Look

Post by abuss368 » Tue Nov 11, 2014 8:24 am

stemikger wrote:I have been investing for 20 years now and other than for a short period of thinking I needed to, I do not invest directly in an international fund and so far, I don't feel like I'm missing out. Jack has said numerous times one can do very well holding the Vanguard Balanced Index Fund and that is all they need.
Or the two fund - Total Stock and Total Bond!
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Re: International Stock Diversification — A New Look

Post by larryswedroe » Tue Nov 11, 2014 9:13 am

stemikger
For a strategy to be a good one it should work wherever you live. You might ask yourself how you would feel about not investing internationally if you lived in Japan for last 25 years and took the advice is all you need is a domestic balanced fund. As Taleb said, only lucky fools don't know they are lucky failing to consider that alternative universes might have shown up. They end up confusing strategy with outcome, like the person who invests their life savings in a lottery ticket and wins. A strategy must be right before we know the outcome, or wrong. And home country bias is a persistent and pervasive problem that causes individual investors all around the world to underdiversify. Some get lucky and others unlucky, but since diversification is the only free lunch in investing, failing to eat as much of it as you can isn't a good idea.


Larry

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Re: International Stock Diversification — A New Look

Post by SimpleGift » Tue Nov 11, 2014 10:04 am

Robert T wrote:Not sure how this factors into regional considerations for asset allocation, but don't think we need to throw 'country of domicile' out the window just yet (I don't intend to make any changes). Will be interesting to see more analysis.
Agree that country-of-domicile still has relevance — if for no other reason than it's still much easier and more precise these days to determine a company's domicile, than to determine its global revenue sources. As discussed upthread, the revenue source data reported by global companies is still quite crude, incomplete and spotty. So country-of-domicile indexes will persist for a long while, I expect.

What investors can do is get used to looking at the revenue exposure that results from their country-of-domicile, cap-weighted indexes and make any adjustments to their equity allocations as desired. The differences between the domicile-weighted index (gray) and the revenue-weighted index (blue) are instructive:

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Last edited by SimpleGift on Tue Nov 11, 2014 12:35 pm, edited 1 time in total.

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Re: International Stock Diversification — A New Look

Post by rm » Tue Nov 11, 2014 10:51 am

Well given this data how do you explain the delta between international stocks and US stocks.

http://www.bogleheads.org/forum/viewtop ... 4#p2254379

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stemikger
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Re: International Stock Diversification — A New Look

Post by stemikger » Tue Nov 11, 2014 5:04 pm

larryswedroe wrote:stemikger
For a strategy to be a good one it should work wherever you live. You might ask yourself how you would feel about not investing internationally if you lived in Japan for last 25 years and took the advice is all you need is a domestic balanced fund. As Taleb said, only lucky fools don't know they are lucky failing to consider that alternative universes might have shown up. They end up confusing strategy with outcome, like the person who invests their life savings in a lottery ticket and wins. A strategy must be right before we know the outcome, or wrong. And home country bias is a persistent and pervasive problem that causes individual investors all around the world to underdiversify. Some get lucky and others unlucky, but since diversification is the only free lunch in investing, failing to eat as much of it as you can isn't a good idea.


Larry
Thanks Larry. I will have to look outside of my 401K for a low cost way to invest in a separate international fund due to my 401K's lousy choices. I have been doing it this way for twenty years, so it may take some time. I appreciate your reply. Thanks again.

Steve
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Re: International Stock Diversification — A New Look

Post by ray.james » Wed Nov 12, 2014 3:47 am

Larry/simplegift

Is there any research on currency fluctuations impact?

All currencies seems to be strongly correlated and go u/Down together against dollar.
When in doubt, http://www.bogleheads.org/forum/viewtopic.php?f=1&t=79939

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Re: International Stock Diversification — A New Look

Post by columbia » Wed Nov 12, 2014 11:27 am

From a behavioral standpoint, it seems like owning one of the Life Strategy funds would be the best way to include international.
My guess is that a lot fewer people would make the mistake of selling (their international) at the very worst time.

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Re: International Stock Diversification — A New Look

Post by SimpleGift » Wed Nov 12, 2014 12:10 pm

rm wrote:Well given this data, how do you explain the delta between international stocks and US stocks.
  • Two points come to mind:

    • First, international diversification is primarily about spreading and balancing risk, not seeking higher returns — though improved risk-adjusted returns should result from adding international stocks to an all-U.S. stock portfolio.

    • As to the recent divergence of returns between U.S. and international stocks, perhaps: 1) The U.S. economy is more flexible in allocating resources, so it recovered more quickly from the financial crisis, and 2) The revenue exposure of U.S. companies is about 60% to its own domestic economy (which is recovering) — while international companies, in aggregate, are more export-oriented, with 50%-70% of their revenue exposure to the global economy as a whole (which has had declining growth rates).
ray.james wrote:Is there any research on currency fluctuations impact?.
  • Looking through MSCI's methodology for constructing its revenue-weighted indexes, they apparently convert each company's revenues that are reported in local currency into US dollars, using the exchange rates at the end of each month. So the revenue exposure comparisons between the various geographic regions are all in US dollars.
Last edited by SimpleGift on Wed Nov 12, 2014 12:15 pm, edited 2 times in total.

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Re: International Stock Diversification — A New Look

Post by Ignatious P. Daily » Wed Nov 12, 2014 12:11 pm

Rick Ferri wrote:A simple way to avoid all the confusion is the buy VT, the Vanguard Total World Stock ETF.

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Re: International Stock Diversification — A New Look

Post by Chan_va » Wed Nov 12, 2014 1:00 pm

Ignatious P. Daily wrote:
Rick Ferri wrote:A simple way to avoid all the confusion is the buy VT, the Vanguard Total World Stock ETF.

Rick Ferri
This is what I do.
Well, yes and no. If you want your portfolio to be cap weighted, yes. However, what this data is showing is that if you want to be revenue weighted, then no - you would weight US stocks more than VT does.

It boils down to what international exposure means. What I think it means is "If Bangladesh suddenly becomes a big economic power, I want a piece of that action". How would you best do that? In the cap weighted model, you would win if the winners of the economic boom in Bangladesh were listed on the Dhaka exchange. In the revenue weighted model, you would win as long as you invested in companies that made stuff that Bangladeshis could now suddenly afford. Theoretically I think the revenue weighted model is better.

Theoretically... However in practice, I think there is likely only a small difference between the 2, and the more important driver of returns is picking an allocation and sticking to it.

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Re: International Stock Diversification — A New Look

Post by garlandwhizzer » Wed Nov 12, 2014 1:56 pm

Great post, Simplegift, thanks. I was surprised at this data and it made me reconsider international diversification. It seems that internationalization of large cap corporations in terms of revenue generation is more pervasive than I had realized. But the difficult question: is this actionable information?

Large cap, especially large cap export companies both domestic and international, seem to all be swimming in the same revenue pool. I do not believe that revenue internationalization applies to the same extent in small cap companies which in general are more tied to local market economies. So the question arises in international investing, does small cap international offer increased diversification relative to large cap? And should we overweight small cap for that reason? I personally overweight SC versus LC international for this reason as well as for the expectation of higher expected long term returns relative to large cap.

A second point to consider is the question of valuations of US versus international equities. Even though revenues are coming from the same places, an investor pays less for a dollar of earnings, a dollar of dividends, or a dollar of book value in international versus US equity presently. Does this better valuation compensate for the increased risk and for recent underperformance? Personally I believe it does and have a 60/40 US/International equity exposure. However as Bogle and as Simlegift's excellent post have pointed out, a 100% US equity portfolio may be less diversified but it does tap substantially into international economies.

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Re: International Stock Diversification — A New Look

Post by Angst » Wed Nov 12, 2014 2:02 pm

Chan_va wrote: Well, yes and no. If you want your portfolio to be cap weighted, yes. However, what this data is showing is that if you want to be revenue weighted, then no - you would weight US stocks more than VT does.

.... <snip> .....

Theoretically... However in practice, I think there is likely only a small difference between the 2, and the more important driver of returns is picking an allocation and sticking to it.
And an advantage to cap weighting is the simplicity in how cap-weighted funds tend to automatically adjust themselves, i.e. they track the cap weight changes within themselves. Revenue weighting on the other hand would require additional monitoring and rebalancing of everything with respect to changes in sources of revenue; I don't imagine there would be much if any tendency at all for the cap-weighted funds to track this for you. Or maybe there would be some...?

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Re: International Stock Diversification — A New Look

Post by nobsinvestor » Wed Nov 12, 2014 2:05 pm

I'd like to add my 2 cents. A few months ago I was way more of a 50/50 US/intl split type of guy, trying to stay close to global cap weights. Now I'm not so sure.

I started a thread last month about this, where I mentioned that Europe and Japan face massive domestic and economic problems that no other region on earth faces by comparison. Yes, I know that is baked into the valuations and in theory means higher expected returns at some point.

I myself think its foolish to own Exxon but not BP, or Wells Fargo but not Barclays.

BUT-

What good is international corporate diversification if the market seems to be moving international stocks on macro factors way moreso than micro-level factors? Look how bad international markets sell off at bad news about Ukraine, Eurozone, etc. It has nothing to do with the fact that investors think BP or Barclays are inferior companies to US ones. It has more to do, I think, with the fact that computer-driven flash traders, hedge funds, and even many mainstream active mutual funds are moving markets on macro news and trends.

Plus, there's always the risk that international stocks for the previous mentioned reasons/fears stay sideways or lower for the next 20 years, which is the majority of a young person's equity investment career. It is my personal OPINION that this is less likely to happen to the US and with US stocks. But of course nobody knows.

Just something to think about. I now think the right number for international stocks is somewhere between 20-40%.

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