Go offshore to spread risk and get growth

By Mark Fryer

Just because you live in New Zealand, there's no reason why all your investments should.

In fact, there are some very good reasons why they should have a distinctly foreign flavour.

Why? An easy answer would be to look at a graph of the New Zealand sharemarket, compared with the rest of the world, over recent years.

According to Tower Managed Funds, if you'd put $10,000 into the local market in December 1987 - after the crash - and invested all the dividends, you'd now have over $18,000. If you'd spread the same amount over the world's sharemarkets, in proportion to their size, you'd have almost $45,000.

But the mere fact that the New Zealand market has not been a great performer lately is not in itself a good reason for investing overseas. After all, markets come and go, and there's a chance that better times for New Zealand could be just around the corner.

The best argument for investing overseas is the one that would apply even if New Zealand had kept pace with the rest of the world in the past decade. It all comes back to that tired-but-true cliche: don't put all your eggs in one basket. If all your money is in New Zealand, it's in one of the smallest baskets there is.

More formally, an investment manager would say that putting at least some of your money overseas is a method of reducing risk, something it does in several ways.

For a start, while every economy has its good and bad times, they don't happen simultaneously all round the world. So, if your investments in New Zealand aren't looking too good, maybe your Australian shares, for example, will be doing better, thus smoothing out the inevitable ups and downs of any investment portfolio.

Investing overseas also allows you to put money into different types of economies, so when times are tough for small resource-based nations - like New Zealand - you may be able to profit from happier times in big industrial countries.

There's also the fact that the giants of world industry can't be found in New Zealand. If you think it makes sense to have some money in firms the size of General Electric, McDonald's or Coca-Cola, you'll have to look overseas.

It's the same story if you want to invest in the new technologies which have been such a driving force on overseas markets in recent years; opportunities to invest in the internet, for example, are next to non-existent in New Zealand.

But if the theory of overseas investment makes sense, there's a more practical question: how much? Should you send all of your money overseas? Just 10 per cent?

The answer depends on who you ask. Investment writer Martin Hawes reckons that at least 20 per cent of your investments should be overseas, and in some cases more than 60 per cent. Consumer magazine suggests having at least half your investments overseas, assuming you're aiming for long-term growth.

And a panel of experts who spent several days earlier this year talking over the issue of allocating investments, at a conference organised by FPG Research (now Morningstar) decided that 70 per cent overseas would make sense for a long-term investor prepared to accept a reasonable degree of risk.

So while it's hardly precise, the general answer is more rather than less, particularly if you are a long-term investor concentrating on "growth" investments - essentially shares and property, where there is at least a chance that the investment could rise in value, rather than just producing income.

Overseas investment is not for everyone, however. If you rely on income from investments to cover day-to-day living costs, you could be just as well off sticking with New Zealand. It's simplest to make fixed-interest investments in your home country, returns are no worse than they are in the rest of the world, and on the sharemarket our dividends at least are relatively high.

And while overseas investment makes good sense for many investors, it does come with an extra risk, in the form of changing exchange rates.

If you invest a dollar in New Zealand, what you get back will also be in New Zealand dollars (hopefully more of them than you put in). When you invest overseas, your money has to be converted into foreign currency when you put it in, then converted back to New Zealand dollars when you want it back, and that process may not be to your advantage.

Right now, for example, you'd need to come up with about $19,200 to buy $US10,000 worth of investments.

If those investments rise by 15 per cent, after a year they'll be worth $US11,500. But if the kiwi dollar rises to 62USc over the same time, when you convert the investments back into New Zealand currency you'll get just $18,550 - all the returns you earned in the US have been eaten up by the changing relationship between the two currencies.

It can also work the other way, with a fall in the value of the New Zealand dollar adding to returns earned overseas - as has been happening recently.

While fund managers can use various mechanisms to smooth out the effect of such currency changes, exchange rate risk can be managed by spreading your investments over several countries and staying in for the long term.

It's also worth remembering that you can't entirely escape the foreign exchange danger by keeping all your investments at home, not with local interest rates, share prices and the cost of imported goods all highly dependent on exchange rates.