Things you should consider when investing in international mutual funds

In 2015, European stocks were deemed the world’s top performers. In the same year in another part of the world, Japan’s benchmark stock index had outperformed and climbed to its highest level in 15 years. On the other hand, the picture was far from rosy in India where stock markets faced turbulence due to a multitude of factors like dismal corporate earnings, errant monsoons, and vagaries in commodity and oil prices.

Stock indices of different countries rarely move in tandem in a certain period. While there may be similarities in trends when there are global triggers like the coronavirus pandemic or the ongoing war between Russia and Ukraine that have a ripple effect on the global economy but the extent of the impact of such incidents on the stock markets of each country cannot be congruent.

In an increasingly global world, where digitization and technology have dissipated geographical barriers and made it possible to consume products and services originating from any corner of the world, investment trends are also moving away from the confines of the domestic market. International mutual funds have emerged as a convenient way to diversify your portfolio and tap into the myriad opportunities present in the international stock markets for wealth creation in the long run.

International mutual funds invest in assets such as stocks, bonds, commodities, and funds of a foreign country. Deepak Chhabria, CEO of Axiom Financial Services says, “Every investor should aim to attain diversification as this reduces risk. Global investing through international mutual funds is one such avenue, worth exploring. International mutual funds offer geographical diversification and mitigate the risk of being exposed to only the domestic market. Through these funds, investors can participate in the wealth that is being created by some of the global brands and corporates that are not listed here.”

As an Indian investor, you don’t have to go through the hassle of picking the appropriate stocks on international exchanges and the process of investing in these funds is very similar to investing in domestic mutual funds. However, here are a few things you should consider when foraying into the international mutual fund arena:

  • The addition of an international mutual fund to your portfolio should not throw the diversification formula of your portfolio off track. Your existing investments would have a mix of asset classes that carry different levels of risk but the asset allocation is done in a way that the overall risk levels stay within tolerable limits. The funds that you choose to invest in should not lead to increased risk and neither should it jumble up your asset allocation and cause your exposure to a certain class to become concentrated. Chhabria says, “The exposure to international mutual funds should be within the overall equity allocation based on the investor risk appetite.”
  • Investments in international mutual funds are best suited for long-term goals. Venturing into the international mutual fund domain with the objective of earning profits in bursts and spurts can be a risky affair. These funds carry unique risks such as volatility due to geopolitical events or fluctuations in currencies. An investment horizon of 5 to 7 years is vital to ensure that the risks arising in the short term due to various triggers get ironed out with time.
  • International diversification lets you utilize fluctuations in the exchange rate to grow your wealth. Foreign investments can provide a buffer against rupee depreciation because when the rupee slides against the currency of your chosen international market, then you get more rupees per unit of the currency invested and the net asset value (NAV) rises and vice versa. Chhabria explains, “Though international mutual funds offer diversification, it’s worth remembering that there is an additional element of currency risk, sometimes it may not necessarily work in your favour; for e.g when your domestic currency starts appreciating.” Any investment in international funds has to be preceded by factoring in the movement patterns of the rupee against the dollar and for funds where multiple currencies are at play, the conversion rate of those currencies against the dollar will have to be factored in too.
  • The expense ratios of international mutual funds can be higher than that of domestic mutual funds. Before investing in a fund, check whether the fund’s expense ratio is justified vis-à-vis the fund’s performance. The expense ratio covers the fund’s organizational and operating costs and a high expense ratio could eat into your returns significantly in the long run.

For novice investors who are still learning the ropes or those with low-risk appetites, Chhabria recommends broadly diversified international mutual funds or index funds. “Broadly diversified international mutual funds or index funds are more suitable than country-specific or thematic funds as investors may not be able to keep a close watch on everything that may affect the performance of these schemes. Country-specific funds are only for highly evolved investors as they carry country-specific risks, as well as currency risks of that country and any geopolitical event in that region can have a huge negative impact.”

Action points

  • While past performance can never be a guarantor of future trends, it is important to have an idea of the fund’s historic performance and the pedigree of the fund house as well. Troubles in the management circles of the AMC or reputational risks can augur badly for your portfolio.
  • Before investing in international mutual funds, you should be privy to the prevailing geopolitical scenario of that country/region. It doesn’t make sense to invest in the stocks of companies belonging to countries that are either already going through or are on the brink of turmoil.

This article is part of the HT Friday Finance series published in association with Aditya Birla Sun Life Mutual Fund.

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