According to the Self-Managed Super Fund (SMSF) statistical report June 2015 published by the Australian Tax Office, Australian listed shares made up approximately 32% ($187 Billion) of total SMSF assets while overseas shares only made up approximately 1% ($1.8 Billion). Well to be honest that statistic is rubbish and the true figure is nearer 10%.
Graham Hand on the Cuffelinks website recently delved deeper in to these figures and found the $1.8 Billion in International shares only represented direct shares listed on Overseas exchanges and did not include the multitude of managed funds, listed investments like ETFs and LICs and other managed investments.
Why do we stay so close to home and what do we miss out on by doing so:
SMSF investors do seem to have a home bias for a number of reasons
Ease of access |
Their preference for direct investing rather than investing through managed funds tends to mean they favour Australian shares because investing directly into international shares is complex and harder to access. Issues may include whether or not to hedge, the type of hedging strategy and implementation. |
Performance history |
Australian shares have historically outperformed international shares over the long term which has influenced many SMSF investors to be underweight international shares in favour of the better performing and higher yielding Australian shares. |
Quasi global exposure |
Some SMSF investors believe that investing in Australian companies that have a global presence, such as BHP and Rio Tinto, provide adequate exposure to international economies and investment themes. |
High yielding shares with franking credits |
Australian shares tend to provide relatively higher levels of income with franking credits. This can be an important source of tax effective income for retirees and pre-retirees. The franking credits can be used to offset other tax within the SMSF (in the accumulation phase). |
Investor understanding and awareness |
A SMSF investor will typically have a deeper knowledge and understanding of the Australian share market and companies that make up the market than overseas companies. As a result they may feel more comfortable investing domestically. |
An excessive home bias has its downside which needs to be considered
Some of these considerations are discussed below:
Concentration of the domestic market |
It is well-known that the Australian share market represents a small portion of the global universe (around 3% as measured by the MSCI index). Our share market is highly concentrated in a few sectors and a handful of companies. The resource and banking sectors comprise over 60% of our market and the top 10 stocks represent 52% of the index (S&P/ASX 200 Index). The biggest company BHP alone makes up 13% of the index. This is illustrated in the graph below which shows the extent of over-exposure and under-exposure of Australian shares in various sectors relative to international shares.This high level of concentration in Australian shares means that investors are prone to shocks or underperformance affecting these key sectors and companies. This may derive from such things as legislative changes and/or events such as a sharp slowdown in China’s economy. |
Impact of currency on returns |
SMSF investors should take into account that a significant amount of the long-term underperformance of international shares has been due to the appreciation of the Australian dollar. A rise in the Australian dollar translates to currency losses which detract from the overall returns from international assets. To rely on the historical performance of international shares relative to Australian shares as a guide to future performance assumes that our Australian dollar will continue to appreciate over the next few years. |
Other domestic investments |
SMSF investors that operate a small business and/or own investment property (either within or outside of their SMSF) already have a heavy exposure to the direction of the Australian economy. An excessive home bias to Australian shares in their SMSF exacerbates the extent of their reliance on the performance of the Australian economy. According to the SMSF statistical report, 46% of total SMSF assets are either domestic listed shares or real estate assets.This sort of weighting means SMSF investors are likely to have a lower level of diversification in their portfolio due to limited exposure to countries, economies, industries and companies that are either not available or well represented in Australia. Also, by not investing offshore the investor has little access to countries with stronger economic growth prospects than Australia, such as the emerging markets with their rapidly expanding population and development prospects. It is important to keep in mind that Australia represents less than 3% of the total world share market. |
What is the best way to go about diversifying into international shares?
There are a number of ways of accessing international shares including through the use of managed funds, ETFs, LICs and direct equities with an international focus including those listed on offshore share markets. There are different types of international share funds such as global diversified funds, sector specific funds, market capitalisation funds, country funds and specialist funds.
The best way to access international shares will depend on the investment strategy of the SMSF fund and the amount of money to be placed in international shares. Some guidelines include:
- SMSF investors with a preference for direct investments may consider buying international ETFs which track an international index or new listed option like MGE which is a close sibling to Magellan’s unlisted Magellan Global Equities fund
- Investors with a small amount to invest in international shares may prefer a global diversified managed fund that provides broader diversification
- Investors with a higher risk tolerance and larger amounts of funds may consider a combination of global, diversified funds supplemented with specialist and regional/country funds
Here is a good short video that explains the Home Country Bias well
How investors can deal with currency risk when investing offshore
Currency can pose a significant risk for international investors but it can also provide benefits. When the Australian dollar depreciates, currency gains can be made from the international asset when it is converted back to Australian dollars. Any currency gains will boost returns from the international investment.
Hedging the currency exposure will mean that investors miss out on this gain if the Australian dollar falls. The currency exposure can also add to the diversification benefits of investing overseas. However, if the Australian dollar appreciates the investor will experience currency losses that detract from returns.
Predicting currency movements has proven to be very difficult and is fraught with risk. Nonetheless, if SMSF investors are concerned about the risk of a continued rise in the Australian dollar, they can hedge some or all of their currency risk by the following methods:
- Investing in a managed fund that actively manages the currency exposure, thereby leaving the hedging decision to the fund manager
- Investing in a managed fund that has a set amount of hedging in place at all times such as 50% and 100% hedged international share funds
- Investing in currency ETFs that effectively increase in value if the Australian dollar appreciates, thereby offsetting some or all of the losses made in the international share portfolio.
I hope these thoughts have been helpful and please take the time to comment.
We can help you determine the right asset allocation for you!
Would love some feedback as well or arrange a meeting by clicking on the Schedule Now
Liam Shorte B.Bus SSA™ AFP
Wealth Advisor & SMSF Specialist Advisor™
Tel: 02 98941844, Mobile: 0413 936 299
PO Box 6002 BHBC, Baulkham Hills NSW 2153
5/15 Terminus St. Castle Hill NSW 2154
Corporate Authorised Representative of Magnitude Group Pty Ltd ABN 54 086 266 202, AFSL 221557
Important information
The information in this article is provided for illustrative purposes only and does not take into consideration your personal circumstances. You are encouraged to seek financial advice suitable to your circumstances to avoid a decision that is not appropriate. Any reference to your actual circumstances is coincidental. Genesys and its representatives receive fees and brokerage from the provision of financial advice or placement of financial products.
2 Comments