Home Bias and Global Diversification
Every day we enjoy the benefits of an interconnected world.
We might start our day with a cup of coffee that originated in South America, check our email on a smartphone designed in California and manufactured in Taiwan, then dress in clothes woven from Egyptian fabrics before driving a German-made car or riding in a French-built train to work.
As consumers, we rarely think twice about the benefits of access to the variety of goods the global market has to offer.
Yet, many investors will often concentrate their portfolios in favour of their home market at the expense of global diversification.
For example, while UK equity markets represent around 4% of the value of global equity markets, many UK investors tend to allocate around a third of their equity assets to domestic equities.
This phenomenon, which can be observed across countries around the world, is known in the investment community as “home-country bias.”
Given that certain frictions may be associated with investing abroad, a home-country bias may make sense for an investor in certain cases.
However, in general, neglecting the benefits that global diversification has to offer may increase risks and greatly reduce the investment opportunity set.
Many charts and graphs reveal that between 2002 and 2021, 12 different developed countries out of 22 had the best performing equity market in a given calendar year, and no country had the best performing market for more than two consecutive years.
This trend was also observed in merging markets whereby 14 different emerging market countries out of 20 had the best performing market in a given year, and once again, no country had the best-performing market in consecutive years.
In other words, the data shows that it is difficult to know which markets will outperform from year to year.
By holding a globally diversified portfolio, investors such as clients of Wells Gibson, are instead well positioned to capture returns wherever they occur.
Clearly, attempting to pick only winning markets in any given period is a challenging proposition.
By pursuing a globally diversified approach to investing, one doesn’t have to attempt to pick winners to achieve a rewarding investment experience.
By expanding the investment opportunity set beyond their domestic equity market, investors can help increase the reliability of outcomes.
Thus, investors can be confident that a globally diversified portfolio will hold the best (and worst) performing countries each year.
At Wells Gibson, we play a vital role in guiding investors through the complexities of global diversification. If you have any queries in relation to this blog, please do not hesitate to contact the Wells Gibson team.