Some things from the 1990s would be welcomed back with open arms by most people – and other things not so much.
Rush-hour tube trains that weren’t packed like sardine cans on one hand, and the Spice Girls on the other, for example.
Something that falls into the first category is the benefit of diversifying your investments geographically.
Spreading your investments around the world has become much more beneficial.
While the mantra of ‘you must diversify’ is consistently repeated by investment advisers and financial journalists, when it comes to geographic diversification it has not really been a huge help in much of the past 18 years.
As globalisation accelerated since the turn of the millennium and central bank’s rescue measures kicked in following the 2008 crash, the stock markets of major nations gradually moved more and more in sync with each other.
This meant distributing money between a number of different countries’ stock markets offered less and less benefit over investing in just one or two.
But that has changed over the past two years, and as we hit choppier times for world stock markets this year, a more thorough spreading of your investments around the world could be just the ticket to protect your money.
The chart below from investment firm Charles Schwab shows how closely correlated the stock markets in different countries around the world have been since 1970. In other words, to what degree they move in the same direction at the same time.
World stock markets are now back to being as uncorrelated as they were in the 1990’s
Up until around the year 2000 correlation between the world’s various stock markets fluctuated around the 0.3 level.
With a lower number meaning less correlation and therefore more benefit to be gleaned from diversifying, things were pretty good for investors who spread out cash around the world’s different countries.
Low average correlation across stock markets means diversified investors potentially benefit from less risk and volatility, without hampering returns. Higher correlation is the opposite, and when the number reaches 1 markets are said to be in ‘perfect correlation.’
‘Perfect’ sounds like something you would want, but it isn’t in this case. It means two or more markets move in exactly the same way as each other.
Jeffrey Kleintop, chief global investment strategist at Charles Schwab, explained: ‘Diversification has made a comeback.
‘Measured statistically, the correlation between stock markets of the group of 20 nations plus Spain, that together make up 80 per cent of world GDP, peaked in 2011 and has subsequently fallen in recent years to levels not seen since 1997, a time before the tech bubble had fully inflated.’
‘The bulls aren’t running in a herd,’ Kleintop continued. ‘Bull markets can be found in the stocks of countries around the world, but their movements are less correlated with each other than they have been in the past 20 years.
‘The change brings the return of an important diversification benefit for holders of globally diversified portfolios.’
Isa season is upon us and as you consider options to use up your allowance before the deadline, a closer look at how many countries you have exposure to would be more worthwhile than has been the case for many years.
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