The Australian dollar is currently trading at around $US 0.92 - the highest level since the mid 1980s! This provides for interesting opportunities for Australian investors to use the strong Aussie dollar and purchase overseas shares.
Why would an Australian invest in overseas markets?
The Australian sharemarket is about 2 per cent of the value of the world's total sharemarket's. That means that there are many investment opportunities outside of Australia. Of course this by itself is not a reason to invest in international shares. Let's consider the long term return from Australian shares and international shares. Over the past 37 years the average return from Australian shares has been 13.8 per cent a year. The average return from international shares has been 13.6 per cent a year. (source: Vanguard)
This similar long-term return makes it worth considering having both assets in a portfolio to increase the diversification of your portfolio. Australian shares have recently had 4 years of extraordinary returns, however we know that won't last for ever. Historically there have been 14 years of the past 37 where international shares have had higher returns that Australian shares.
How do you invest in overseas shares?
Most people will tend to use some form of managed investment to invest overseas. This is because it is harder and more expensive to research and buy overseas shares, compared to investing directly in Australian shares.
Almost all fund managers will offer overseas share funds. As well as this there are listed investment companies that offer exposure to overseas shares. There are also exchange traded funds listed on the stock exchange that offer exposure to various international market indices, particularly in the US.
More and more brokers, both full service brokers and discount brokers, offer investors the ability to access international shares directly.
What is the role of currency in an overseas portfolio?
If you purchase overseas assets using Australian currency, you have your returns increased if the Australian dollar falls, and decreased if it rises.
This means that if you were to purchase overseas assets with the Australian dollar today, and the dollar falls, you will receive higher investment returns.
The reverse is also true - over the past 5 years investment returns were reduced as the Australian dollar increased.
There are international share funds that use a 'currency hedged' strategy. This means that portfolios don't move with currency movements at all - they are effectively protected against any exchange rate changes.
The opposite of this are funds that don't use any currency hedging. These are known as 'unhedged' international share funds.
In my opinion there is a strong case to consider unhedged international share funds for your portfolio. Factors to consider include that there is a cost to hedging a portfolio. Admittedly the cost is not huge, usually estimated to be around 0.1 per cent to 0.2 per cent a year, however this does reduce the returns from a hedged portfolio.
Hedging a portfolio creates additional taxable distributions from a fund at times, meaning a hedged portfolio is less tax effective than an unhedged one.
A currency hedged portfolio has returns that are more closely 'correlated', or similar to Australian market returns. Given that we invest in international shares for diversification, it makes sense to use an unhedged fund where returns are less 'correlated', or similar to Australian market returns.
Keep in mind that you don't have to be all currency hedged or currency unhedged, you might choose a mix of the two.
Should people consider changing the balance of the superannuation towards international shares?
Most people have superannuation funds with an asset allocation (the mix of assets like property, cash, international shares and Australian shares) put together by professional investment managers. This is highly likely to have some international share exposure. For example, in the 'balanced' option of one of Queensland's largest superannuation fund the target allocation is 25 per cent of the portfolio in international shares, and 30 per cent in Australian shares.
People who manage their own superannuation - perhaps using a self managed superannuation fund - should be thinking about which assets they invest in, in a strategic manner. I am not aware of any managers who look after 'balanced' and 'growth' style superannuation portfolios who do not include some exposure to international shares in their portfolio.
Has the boat already sailed? Is this a case of jumping on board too late, when they're already at or near their peak?
The strong Australian dollar provides an opportunity to invest overseas using the stronger purchasing power of the Australian dollar. Sharemarkets have had a period of strong investment returns, with a very quick recovery from the 'sub prime mortgage crisis' only two or three months ago.
That said, over the long term (10 years and more), sharemarkets have been very effective in rewarding investors and there is no reason to think that this will not be the case in the future. Keep in mind that sharemarkets have been around and survived through world wars, the depression, a couple of 'oil shocks', multiple recessions and the 1987 sharemarket crash. And while sharmarkets are volatile, they have consistently rewarded patient investors with returns of around 5 per cent to 7 per cent above the rate of inflation.