Here’s a great article from the team at GMO that demonstrates how “home country bias” may be hurting your performance. Home country bias means investors have a natural tendency to focus their investments in companies and markets in their own country.
Here’s an excerpt from that article:
Investors have clearly rewarded US companies for their higher earnings growth by paying significantly higher prices for them. Perhaps, though, the market has gotten ahead of itself. Equities are long-duration assets – investors are not just buying stocks for the next few years of earnings, they are buying an earnings stream stretching out for decades. In competitive economies and markets, both valuations (price multiples) and profit margins (return on capital) tend to mean revert.
Our founder and Chief Strategist Jeremy Grantham, however, points out a number of reasons why US profit margins may stay elevated and take longer than prior periods to mean revert (see “This Time Seems Very, Very Different,” Jeremy Grantham, 1Q 2017). While valuation has been a great predictor of return, it unfortunately does not tell us much about the timing in which assets will mean revert to fair or normal levels. We still believe, though, that the price you pay for an asset is the biggest determinant of the return you will make. The more you pay, the less you will make.
Rather than buy the comfortable asset, investors should ask, “What’s in the price?” We would argue that the relatively good news in the US is more than reflected in asset prices. Emerging and developed ex-US stocks look to be more attractively priced (even accounting for higher fundamental risks). In fairness, nothing looks cheap. The best we can say is that value stocks in emerging markets look to be near fair value and that the spread between expected returns for emerging market value and US stocks is quite wide. In addition, emerging markets offer modestly attractive currencies. We believe long-term investors able to ride out the invariable market swings should fight their home country bias and buy emerging.
You can read the full article here.
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