The first thing to remember is that if you buy the All-Share Index or the FTSE 100 or FTSE 250, you are immediately getting a lot of overseas exposure. Overseas earnings make up more than 50 per cent of those companies’ total earnings. The United Kingdom’s economy and its stock market are very different; the latter is not a proxy for the former.
However, there are some sectors that are easier to get exposure to if you venture abroad—UK indices don’t have, for example, a big technology sector. So the search for more exposure to more industries, in order to build a diverse portfolio, might in itself send you to look at investments overseas. Don’t buy international shares just to get exposure to other currencies, though. The country of listing is a poor proxy for that. And don’t just be tempted by the growth story of the economy as a whole. You need to look closely at companies themselves, as we do at Aberdeen Asset Management, analysing and understanding the industry and the way that a particular company operates within it.
Let’s start with the United States. Overall, it looks in reasonable shape. Its companies have been finding growth overseas, in the emerging world (look at Apple’s international sales), but the strength of the US dollar has meant that when translated back into dollars those results don’t look so good. The American market may now have to rely more on domestic earnings to push forward. Given how fragile the international recovery is, I would expect the Federal Reserve to err on the side of caution; after all, patience is the hallmark of Janet Yellen, Chair of the Federal Reserve. The moment when interest rates have to rise has probably been pushed back yet again.
Turning to “emerging markets,” we should remember that they are more than 50 per cent of global Gross Domestic Product and there are a whole range of differences between individual countries. We cannot treat India, Russia and China in the same way, for example: they each have their own dynamics. The kind of questions that investors need to consider are: what is the rule of law and how are your interests as minority shareholders or bondholders protected? India, to take just one example, has seen some positive momentum recently, reflecting a strong central bank Governor and a reformist political agenda.
Turning to Europe, the big shift in voting patterns right across the continent and the rise of minority parties have added a political uncertainty to the economic one. Quantitative easing (QE) by the European Central Bank has helped a little, largely through weakening the euro, but it won’t be the same catalyst to recovery that it was in the US. Why did QE work so well there? First, it was introduced very rapidly. Ben Bernanke, then the Chair of the Federal Reserve, had studied the Great Depression of the 1930s and knew policy had to be loosened drastically to prevent a similar deflationary spiral. And second, the authorities also moved very quickly to recapitalise the banks so they could resume lending to businesses, feeding through to the real economy. It took a while but it worked.
In contrast, the European Central Bank, was raising interest rates even as late as 2011 to fight an inflationary problem that simply did not exist—it was fighting the wrong war. Banks, under pressure from regulation to increase their own capital, have been unable to increase lending to business—and since the European corporate sector is even more reliant on direct bank lending than its US equivalent, it will be a while before we see a business-led economic recovery in Europe.
