Slice and dice international

Introduction
As an alternative to investing in a foreign total market fund, it is possible to "slice and dice" by holding separate regional funds: Emerging Markets plus either a Developed Markets fund or separate Pacific Rim and European funds.

Characteristics of Slice And Dice
The primary advantage of a total market fund is simplicity: a single fund whose market weights are maintained automatically. A secondary benefit for a Vanguard investor is the potential inclusion of Canadian stocks, which represent about 5% of Vanguard FTSE All World ex US Index Fund.

Possible advantages/disadvantages of slicing and dicing internationally:

Expense Ratio Comparison
[1] ETF shares are subject to commission, spread, and discount/premium costs upon purchase and sale

[2] The purchase and redemption fees are paid into the fund. The redemption fee is charged only on shares held for less than the indicated holding period (permanent for Vanguard Emerging Markets Stock Index Fund).

The relative cost advantage of using ETF or investor/admiral shares is dependent on many factors, including size and frequency of the investment, expected holding period, the level of commission and trading costs, and realized return. To determine the relative costs between an ETF/mutual fund decision, one can use the Vanguard Cost Comparison calculator

Taxes
Vanguard Total International Stock Index Fund does not qualify for the Foreign Tax Credit, whereas the separate Europe, Pacific and EM funds do. However, with availability of the new Vanguard FTSE All World ex US Index Fund, which does qualify for the credit, there is no longer an advantage here for S&D. Furthermore, the Vanguard FTSE All World ex US Index Fund appears to have a slight edge in generating qualified dividends, which are subject to a maximum 15% tax rate. From Qualified dividend income—2007 year-end figures

Slicing and dicing the international allocation may give rise to more tax loss harvesting opportunities because the components (Europe, Pacific, and Emerging Markets) do not necessarily move in the same directions.

Diversification of Currencies
According to Rick Ferri in All About Asset Allocation, having fixed allocations between Europe, Pacific, and EM diversifies currencies better than one fund.

Possible Rebalancing Bonus
Also according to Rick Ferri, rebalancing of those currencies "could provide a diversification benefit, as it has in the past". William Bernstein suggests a rebalancing bonus may be obtainable with Emerging Markets (see Links). Note that rebalancing in a taxable account may lead to payment of capital gains taxes.

Overweighting Pacific or Emerging Markets
Historically Europe has been more correlated with the U.S. market than Pacific and Emerging Markets, so the investor may want to overweight Pacific or EM. The current market weight as of 06/30/2008 is approximately 53.2% Europe, 25.4% Pacific and 21.4% EM according to the allocation of Vanguard Total International Stock Index Fund, which follows the market capitalization.

Avoiding Regional Bubbles
Total market funds will change as the underlying market weights change. With Japan as an example, maintaining a fixed weight to Japan/Pacific in the 80's might have avoided an overallocation to Japan. More recently, Emerging Markets has increased to 21% of the world market in 2008 [1] from about 4% in 1998 [2].

References:
[1] according to composition of Vanguard Total International Market fund, April 2008

[2] John Bogle, Common Sense on Mutual Funds, 1999

Links
Current International Market Weights (Standard & Poors)

Real Equity Returns in Key Markets over Selected Periods (from Dimson, Marsh, and Staunton)

William Bernstein - Rebalancing Individual National Markets

FTSE vs. S&D - Tax Implications (forum topic)