By Dale Roberts, cutthecrapinvesting

Special to the Financial Independence Hub

Investors around the globe are known to invest ‘too much’ of their portfolio in their home country. It is called a home bias. Canadian investors are guilty of that home bias. Many estimates suggest that Canadians hold about 60% of their portfolio assets in Canada.

Meanwhile Canadian stock markets represent only about 3% of the global total. That home bias increases portfolio concentration risk (in one country and in just a few sectors). There has also been a cost; lower returns due to the underperformance of the Canadian market vs the U.S. market and at times the International developed markets. It is an important consideration. What is the cost or your Canadian home bias?

As a backgrounder, in 2019 I suggested that you say goodbye to your Canadian home bias.

I recently posed the question on Twitter:

Please feel free to jump on that tweet as well and offer your home bias. Don’t be shy, we are all guilty, for the most part. If you read through that thread you’ll see that investors offered that they were largely overweight Canada. Most are holding 50% to 70% Canadian stocks.

From the table in that tweet, you can see the drastic underperformance of Canadian stocks vs U.S. stocks over the last 3-, 5-, 10-years or more.

Canadian vs U.S. stocks

And here’s the returns comparison in chart form. The charts and tables are courtesy of Portfolio Visualizer.

And the returns over various time frames, in table format.

For the above comparison, we use the TSX 60 ETF, ticker XIU that you’ll find suggested for core Canadian stocks on the ETF Model Portfolio page.

It appears that there may have been no home bias opportunity cost if you had been invested from the year 2000. Keep in mind that is a static start date measuring the investments (with dividend reinvestment) from the year 2000. The picture will change when we start adding monies ($1,000 per month) on a regular basis.

There is then a meaningful outperformance for the U.S. stocks.

Incredibly, the U.S. stock portfolio generated 46% more money to create retirement income. The TWRR stands for time weighted returns. MWRR refers to the money weighted returns, taking into account the effect of the regular contributions.

The above chart simply shows the outperformance of U.S. stocks vs Canadian stocks. That’s not to suggest that an investor should go all-in on U.S. stocks — though U.S. investors are also known to suffer from an extreme case of investor home bias.

We should not forget the lost decade for U.S. stocks. That was a period when U.S. stocks delivered no real return (inflation adjusted) for a decade or more. And that period begins at the start date for our above charts.

The home bias is of consideration for Canadians, Americans and investors around the globe.

What’s the right mix?

I don’t think you have to be perfect in this regard. And perhaps there is no perfect geographic allocation. But we certainly want a nice mix of Canadian, U.S. and International stocks. We’ll usually add bonds as well when we enter the retirement risk zone, and also in retirement.

U.S. markets certainly fill the holes of the Canadian stock market. And the U.S. multi-nationals that dominate the S&P 500 do offer significant international exposure. That said, an investor should seek greater diversification by way of international developed and developing nations outside of North America.

In the Advanced Spud (couch potato portfolio) section for MoneySense, I offered that investors might seek equal representation from developed and developing markets. There are favourable growth patterns and favourable demographics within the developing markets. As they say: demographics is destiny.

As always, this is not advice, but ideas for consideration.

Global stocks vs U.S. stocks

Here’s global stocks (the rest of the developed world) vs the U.S. market from 1996.

We see global stocks outperforming towards the end of the financial crisis (2008-2009) and then the U.S. market takes over.

We can also see the drastic difference in returns with regular investments. The U.S. stock market and U. S. companies continue to be global leaders with incredible growth prospects. You can’t blame investors for wanting to overweight the U.S. market.

The global cap weighted index

Many portfolio managers would suggest that the most passive investment approach would be to follow the global cap weighting index. That simply takes into account the value of each stock market relative to the total global markets. The stock markets with greater value receive a greater weight.

Here’s the current weighting by way of Vanguard’s (U.S. dollar) Global ETF – VT.

Within that global mix Canada is less than 3%

The U.S. market dominates the global markets. It has largely earned that position by way of earnings and revenue growth, but keep in mind that the global cap weighting method will reward momentum (and hence emotion and unbridled enthusiasm). That momentum ‘got it wrong’ in the late 1990s for U.S. stocks. Is the enthusiasm for U.S. stocks misplaced in 2021? Perhaps partially ‘wrong’? Continue Reading…