International Diversification Basics
Time: 45-60 minutes Cost: $0 to learn (plus investment capital when ready) Platform: Ape AI (askape.com) + Your brokerage Best for: Investors seeking global exposure beyond U.S. markets Companion: Sage (for allocation strategy) + Money (for international opportunities)
What You'll Learn
By the end of this workflow, you'll be able to:
✅ Understand why international diversification matters for U.S. investors
✅ Learn the difference between developed and emerging markets
✅ Determine your optimal international allocation (20%, 30%, 40%, or more?)
✅ Choose between international stocks, ETFs, and ADRs
✅ Understand currency risk and how it affects returns
✅ Build a globally diversified portfolio from scratch
✅ Avoid common international investing mistakes
Why Invest Internationally?
Reason #1: The U.S. is Only 60% of Global Markets
Global Market Capitalization (2024):
🇺🇸 United States: ~60% of global stock market
🌍 Rest of World: ~40% of global stock market
Breakdown by region:
Europe: ~15% (UK, Germany, France, Switzerland)
Japan: ~6%
China: ~5%
Canada: ~3%
Emerging Markets (other): ~8%
Australia/Asia Pacific: ~3%
If you only invest in the U.S., you're ignoring 40% of global investment opportunities.
Reason #2: Diversification Reduces Risk
Not all markets move together.
Historical correlation (U.S. vs International):
U.S. stocks vs. International stocks: ~0.70 correlation
Meaning: They move in the same direction ~70% of the time, but diverge 30% of the time
Example (2008-2023 returns):
2008 (Financial Crisis)
-37%
-45% (worse)
2009 (Recovery)
+28%
+42% (better!)
2010-2020 (Decade)
+257%
+51% (much worse)
2021
+26%
+8%
2022
-20%
-17% (better)
2023
+26%
+16%
The Lesson:
International outperforms during some periods
U.S. outperforms during others
Holding both = smoother overall returns
Portfolio volatility with international diversification:
100% U.S. stocks: 15-18% annual volatility
80% U.S., 20% International: 14-16% volatility (slightly lower)
60% U.S., 40% International: 13-15% volatility (more reduction)
Diversification benefit: -1% to -3% volatility reduction
Reason #3: Access to Unique Opportunities
Companies and industries not available in the U.S.:
Developed Markets:
🇨🇭 Swiss pharmaceuticals: Roche, Novartis
🇩🇪 German manufacturing: BMW, Siemens, SAP
🇯🇵 Japanese tech: Toyota, Sony, Nintendo
🇫🇷 French luxury: LVMH, Hermes, L'Oreal
🇬🇧 British banking: HSBC, Barclays
🇰🇷 Korean semiconductors: Samsung, SK Hynix
Emerging Markets:
🇹🇼 Taiwan chips: TSMC (makes chips for Apple, NVIDIA)
🇨🇳 Chinese e-commerce: Alibaba, Tencent, JD.com
🇮🇳 Indian IT services: Infosys, TCS
🇧🇷 Brazilian commodities: Vale (iron ore), Petrobras (oil)
Some of the world's best companies aren't American!
Reason #4: Hedge Against U.S. Underperformance
Historical cycles: U.S. vs. International leadership
2000-2010 (International Won):
U.S. stocks (S&P 500): -9% total (lost decade!)
International stocks (MSCI EAFE): +19% total
Emerging Markets: +154% (crushed U.S.!)
2010-2020 (U.S. Won):
U.S. stocks: +257% (best decade ever)
International stocks: +51% (lagged severely)
Emerging Markets: +37%
Lesson: Leadership rotates between regions over decades.
If you're 100% U.S.:
2000-2010: You made 0% while international made 19-154%
2010-2020: You crushed it
If you're globally diversified:
You captured BOTH periods (just not at maximum)
Smoother, more consistent long-term returns
Reason #5: Currency Diversification
Holding international stocks = exposure to foreign currencies
When the U.S. dollar weakens:
Your international investments go UP (foreign currency gains)
Hedge against dollar decline
Example:
You own European stocks worth €10,000
EUR/USD = 1.10 ($11,000 value to you)
Euro strengthens to 1.20
Same €10,000 now worth $12,000 (even if stock price unchanged)
You gained 9% from currency alone!
Downside:
When dollar strengthens, international stocks go DOWN (currency headwind)
Net effect over long term: Averages out, but provides diversification
Developed Markets vs. Emerging Markets
Developed Markets (EAFE)
EAFE = Europe, Australasia, Far East
Countries included:
🇯🇵 Japan (largest, ~20% of EAFE)
🇬🇧 United Kingdom (~12%)
🇫🇷 France (~9%)
🇨🇭 Switzerland (~8%)
🇩🇪 Germany (~7%)
🇦🇺 Australia (~6%)
🇨🇦 Canada (sometimes included)
Plus: Netherlands, Spain, Italy, Sweden, Denmark, etc.
Characteristics:
Stability: Established economies, rule of law, property rights
Returns: Moderate (7-9% long-term average)
Volatility: Similar to U.S. (14-17% annual)
Dividend yield: Higher than U.S. (2.5-3.5% vs. 1.5-2%)
Growth: Slower than U.S./emerging markets (aging populations)
Best ETFs:
VEA (Vanguard Developed Markets) - 0.05% expense ratio
SCHF (Schwab International Equity) - 0.06%
IEFA (iShares Core MSCI EAFE) - 0.07%
EFA (iShares MSCI EAFE) - 0.33% (older, more expensive)
Best for: Conservative international exposure (lower risk than emerging markets)
Emerging Markets
Countries included:
🇨🇳 China (largest, ~30% of EM)
🇮🇳 India (~18%)
🇹🇼 Taiwan (~16%)
🇧🇷 Brazil (~5%)
🇸🇦 Saudi Arabia (~4%)
🇰🇷 South Korea (~12%)
🇲🇽 Mexico (~3%)
Plus: South Africa, Indonesia, Thailand, Poland, Turkey, etc.
Characteristics:
Growth: High (emerging economies growing 4-7% GDP vs. U.S. 2-3%)
Returns: Higher potential (10-12% long-term, but inconsistent)
Volatility: MUCH higher (25-35% annual swings)
Risk: Political instability, currency crashes, less regulation
Dividend yield: Moderate (2-3%)
Best ETFs:
VWO (Vanguard Emerging Markets) - 0.08% expense ratio
IEMG (iShares Core MSCI Emerging Markets) - 0.09%
SCHE (Schwab Emerging Markets Equity) - 0.11%
EEM (iShares MSCI Emerging Markets) - 0.69% (older, expensive)
Best for: Aggressive investors seeking high growth (with high risk tolerance)
Frontier Markets (Very Risky)
Even less developed than emerging markets
Countries: Vietnam, Bangladesh, Nigeria, Kenya, Pakistan, etc.
Characteristics:
Growth: Extremely high potential (7-10% GDP)
Risk: VERY high (political, currency, liquidity)
Volatility: Extreme (30-50% annual swings)
Returns: Unpredictable (can boom or bust)
ETF:
FM (iShares MSCI Frontier & Select EM) - 0.79%
Best for: Advanced investors with high risk tolerance (typically <5% of portfolio)
For beginners: Skip frontier markets, focus on developed + emerging
How Much International Exposure?
Common Allocation Approaches
1. Market-Weight Approach (40% International)
Logic: Match global market capitalization
U.S. = 60% of global markets
International = 40% of global markets
Therefore: 60% U.S., 40% International
Example Portfolio ($10,000):
$6,000 in VTI (U.S. stocks)
$3,000 in VEA (Developed markets)
$1,000 in VWO (Emerging markets)
Pros: Mathematically optimal, captures global economy Cons: 40% international feels high for some U.S. investors
Recommended for: True believers in global diversification
2. Vanguard's Recommendation (30-40% International)
Vanguard research (2012):
"International allocation of 30-40% historically optimized risk-adjusted returns for U.S. investors."
Example Portfolio ($10,000):
$7,000 in VTI (U.S. stocks)
$2,100 in VEA (Developed markets)
$900 in VWO (Emerging markets)
Pros: Research-backed, balanced approach Cons: Still significant international exposure (some prefer less)
Recommended for: Evidence-based investors
3. Moderate Approach (20-25% International)
Logic: Meaningful diversification without too much international exposure
Example Portfolio ($10,000):
$7,500 in VTI (U.S. stocks)
$1,750 in VEA (Developed markets)
$750 in VWO (Emerging markets)
Pros: Diversification benefit, lower international risk Cons: Misses out if international outperforms
Recommended for: Moderately conservative investors
4. Conservative Approach (10-15% International)
Logic: Minimal international exposure, mostly U.S.
Example Portfolio ($10,000):
$8,500 in VTI (U.S. stocks)
$1,000 in VEA (Developed markets)
$500 in VWO (Emerging markets)
Pros: Lower risk, home country bias Cons: Limited diversification benefit
Recommended for: Conservative investors, U.S.-focused
5. All-World Approach (Use VT)
Simplest: Buy one fund that holds everything
ETF: VT (Vanguard Total World Stock)
Holds 9,000+ stocks globally
Automatically weights by market cap (~60% U.S., 40% international)
Expense ratio: 0.07%
One-fund portfolio!
Example Portfolio ($10,000):
$10,000 in VT (Total world)
Pros: Ultimate simplicity, automatic global diversification Cons: Can't customize U.S. vs. international mix
Recommended for: "Set it and forget it" investors
Using Sage to Determine Your Allocation
Prompt:
Example:
Implementing International Diversification
Method #1: Using Broad International ETFs (Easiest)
Single-Fund Approach:
VXUS (Vanguard Total International Stock)
Holds both developed AND emerging markets (auto-weighted)
7,900+ stocks
Expense ratio: 0.07%
One-fund solution for international
Example: Add 30% international to $10,000 portfolio
Buy $3,000 of VXUS
Done! (Instant global diversification)
Pros: Ultimate simplicity, automatic rebalancing between developed/emerging Cons: Can't customize dev/emerging split
Method #2: Separate Developed and Emerging (More Control)
Two-Fund Approach:
Allocation:
75% Developed Markets (VEA)
25% Emerging Markets (VWO)
Example: Add 30% international to $10,000 portfolio
Buy $2,250 VEA (developed)
Buy $750 VWO (emerging)
Pros: More control over developed vs. emerging split Cons: Need to rebalance between two funds
Method #3: Individual Country ETFs (Advanced)
For investors who want to tilt toward specific countries
Popular Country ETFs:
EWJ - Japan (iShares MSCI Japan) - 0.50%
EWG - Germany (iShares MSCI Germany) - 0.51%
EWU - United Kingdom (iShares MSCI UK) - 0.51%
EWC - Canada (iShares MSCI Canada) - 0.51%
MCHI - China (iShares MSCI China) - 0.57%
INDA - India (iShares MSCI India) - 0.65%
EWY - South Korea (iShares MSCI South Korea) - 0.59%
EWZ - Brazil (iShares MSCI Brazil) - 0.59%
Example: Custom international allocation ($3,000)
$750 EWJ (Japan) - 25%
$600 EWG (Germany) - 20%
$450 EWU (UK) - 15%
$450 MCHI (China) - 15%
$450 INDA (India) - 15%
$300 EWY (South Korea) - 10%
Pros: Full customization, express specific country views Cons: Higher fees, more complexity, need to rebalance
Best for: Advanced investors with strong country convictions
Method #4: International Individual Stocks (ADRs)
ADR = American Depositary Receipt (foreign stocks traded on U.S. exchanges)
Popular International ADRs:
European:
ASML (Netherlands - chip equipment)
NVO (Novo Nordisk - Denmark - pharmaceuticals)
SAP (Germany - enterprise software)
LVMUY (LVMH - France - luxury goods)
NESN (Nestle - Switzerland - consumer goods)
Asian:
TSM (Taiwan Semiconductor - chip manufacturing)
BABA (Alibaba - China - e-commerce)
SONY (Sony - Japan - consumer electronics)
TCEHY (Tencent - China - tech/gaming)
Latin American:
VALE (Vale - Brazil - mining)
PBR (Petrobras - Brazil - oil)
MELI (MercadoLibre - Argentina/LatAm - e-commerce)
Example: International stock portfolio ($3,000)
$500 TSM (Taiwan chips)
$500 ASML (Netherlands chip equipment)
$500 BABA (China e-commerce)
$500 NVO (Denmark pharmaceuticals)
$500 SAP (Germany software)
$500 MELI (Latin America e-commerce)
Pros: Pick best-in-class companies globally Cons: Single-stock risk, currency complexity, research intensive
Best for: Experienced stock pickers
Currency Risk Explained
What is Currency Risk?
When you own international stocks, you're exposed to TWO sources of return:
Stock price change (same as U.S. stocks)
Currency exchange rate change (unique to international)
Example:
Scenario: You own German stock (BMW)
Year 1:
BMW stock: €100
EUR/USD exchange rate: 1.10
Value to you (USD): $110
Year 2 (Stock up, Euro down):
BMW stock: €110 (+10%)
EUR/USD exchange rate: 1.00 (Euro weakened)
Value to you (USD): $110 (0% gain!)
Result: Stock went up 10% in Euros, but you made 0% because Euro fell vs. Dollar
Year 3 (Stock flat, Euro up):
BMW stock: €110 (0% change)
EUR/USD exchange rate: 1.20 (Euro strengthened)
Value to you (USD): $132 (+20% gain!)
Result: Stock was flat, but you made 20% because Euro rose vs. Dollar
Is Currency Risk Good or Bad?
It's BOTH:
Good (Diversification):
Hedges against dollar decline
Different economies = different currency movements
Over long term (20-30 years), currency effects average out
Bad (Volatility):
Adds short-term unpredictability
Can amplify losses (stock down + currency down = double whammy)
Harder to predict returns
Historical Impact:
Currency can add or subtract 5-15% annually to international returns
Over 10+ years, usually ±0-2% annual impact (less significant)
Should You Hedge Currency Risk?
Currency-Hedged ETFs (remove currency exposure):
HEFA - Hedged developed markets
DBEF - Hedged Europe
DXJ - Hedged Japan
Pros of hedging:
Removes currency volatility
Focuses purely on stock returns
Can outperform during dollar strength
Cons of hedging:
Higher fees (0.30-0.50% vs. 0.05-0.10% unhedged)
Misses currency gains when dollar weakens
Reduces diversification benefit
Vanguard's view:
"For long-term investors, currency hedging is generally not recommended. Costs outweigh benefits."
Recommendation for beginners: Use UNhedged international ETFs (simpler, cheaper, more diversification)
Tax Considerations
Foreign Tax Credit
Many international stocks pay dividends with foreign taxes withheld.
Example:
French stock pays $100 dividend
France withholds 25% tax = $25
You receive $75
Good news: You can claim foreign tax credit on U.S. taxes
Reduces your U.S. tax bill by amount of foreign taxes paid
Recovered in most cases (for developed markets)
How to claim:
Your broker reports foreign taxes on Form 1099-DIV
Include Form 1116 with your tax return
IRS credits you back (up to limits)
Best for: Holding international stocks in TAXABLE accounts (credit is valuable)
Tax-Advantaged Accounts
Roth IRA / Traditional IRA:
Foreign tax credit does NOT apply (no tax return for IRA)
You LOSE the benefit of foreign tax credits
Best practice:
Hold international stocks in TAXABLE accounts (claim foreign tax credit)
Hold U.S. stocks in IRAs (no foreign tax to worry about)
Exception: If you only have IRA, still hold international (diversification > tax optimization)
Common International Investing Mistakes
Mistake #1: Home Country Bias (0% International)
The Trap: "America is the best! I don't need international stocks."
Reality:
U.S. was worst-performing region 2000-2010 (-9% vs. +19% international)
You would have made ZERO while international made double-digit returns
The Fix:
Allocate at least 20-30% to international
Don't let patriotism override diversification
Remember: Some of the world's best companies aren't American
Mistake #2: Chasing Recent Performance
The Trap:
2010-2020: U.S. crushes international (+257% vs. +51%)
2021: You go 100% U.S. stocks
2022-2030: International outperforms (hypothetically)
Historical pattern:
Leadership rotates every 10-15 years
Chasing = buying high, selling low
The Fix:
Set target allocation (e.g., 30% international)
Stick to it regardless of recent performance
Rebalance INTO underperformers (buy low)
Mistake #3: Overweighting Emerging Markets
The Trap: "China and India are growing fast! 50% emerging markets!"
Reality:
Emerging markets are EXTREMELY volatile (50-70% crashes possible)
Currency risk is amplified
Political risk (government can seize assets, change rules)
Example (2021-2022):
Chinese stocks (MCHI): -50% (regulatory crackdown)
Destroyed portfolios overweight China
The Fix:
Limit emerging markets to 20-30% of international allocation
Or 5-10% of total portfolio
Don't bet the farm on high-growth = high-risk
Mistake #4: Ignoring Fees
The Trap: Using expensive international funds (0.50-1.00% expense ratios)
Cost over 30 years:
$100,000 at 0.10% fee → $1.0M final value
$100,000 at 0.70% fee → $840k final value
High fees cost you $160,000!
The Fix:
Use low-cost ETFs:
VEA (0.05%), VXUS (0.07%), VWO (0.08%)
Avoid expensive actively managed international funds
Mistake #5: Not Rebalancing
The Trap:
Start: 70% U.S., 30% international
10 years pass, no rebalancing
Now: 85% U.S., 15% international (U.S. outperformed)
You've lost diversification benefit
The Fix:
Rebalance annually or when drift exceeds 5%
Sell U.S. winners, buy international losers
Maintain target allocation
Sample Globally Diversified Portfolios
Conservative Global Portfolio (Age 55+)
Allocation ($100,000):
Stocks (60%):
35% VTI (U.S. stocks) = $35,000
15% VXUS (International stocks) = $15,000
10% SCHD (U.S. dividend stocks) = $10,000
Bonds (40%):
30% BND (U.S. bonds) = $30,000
10% BNDX (International bonds) = $10,000
Characteristics:
Global diversification (U.S. + international)
Income focus (bonds + dividends)
Lower volatility (40% bonds)
Expected return: 6-7% annually Expected volatility: 9-11%
Balanced Global Portfolio (Age 35-50)
Allocation ($100,000):
Stocks (80%):
50% VTI (U.S. stocks) = $50,000
25% VEA (Developed markets) = $25,000
5% VWO (Emerging markets) = $5,000
Bonds (20%):
15% BND (U.S. bonds) = $15,000
5% BNDX (International bonds) = $5,000
Characteristics:
30% international stocks (global exposure)
Moderate bond allocation (risk management)
Balanced growth + stability
Expected return: 8-9% annually Expected volatility: 13-15%
Aggressive Global Portfolio (Age 20-35)
Allocation ($100,000):
Stocks (100%):
55% VTI (U.S. stocks) = $55,000
30% VEA (Developed markets) = $30,000
15% VWO (Emerging markets) = $15,000
Bonds (0%):
None (100% stocks for maximum growth)
Characteristics:
45% international (maximum global diversification)
Higher emerging markets allocation (growth potential)
No bonds (all-in on equities)
Expected return: 10-11% annually Expected volatility: 17-20%
One-Fund Global Portfolio (Any Age)
Allocation ($100,000):
100% VT (Vanguard Total World Stock) = $100,000
Characteristics:
60% U.S., 40% international (market-weight)
9,000+ stocks globally
Ultimate simplicity
Auto-rebalances
Expected return: 9-10% annually Expected volatility: 15-17%
Best for: "Set it and forget it" investors
Using Money Monty to Find International Opportunities
Find Top International Stocks:
Evaluate International ETF Options:
Assess Regional Opportunities:
Success Checklist
By the end of this workflow, you should have:
🎉 Congratulations! You've built a truly global portfolio that reduces risk and captures opportunities worldwide!
What's Next?
Now that you've mastered international diversification:
Related Workflows:
Build Diversified Portfolio - Overall portfolio construction
Sector Allocation Strategy - Diversify within U.S. stocks
Rebalancing Your Portfolio - Maintain international allocation
Monthly Portfolio Review - Track international performance
Asset Location Optimization - Where to hold international stocks
Continue Learning:
Follow international market news (FT.com, Bloomberg, Reuters)
Study economic trends in different regions
Read Vanguard's research on international diversification
Join r/Bogleheads (strong international diversification advocates)
Practice:
Monitor international vs. U.S. performance monthly
Review country/region weightings in your international ETFs
Consider adding 1-2 individual international stocks you believe in
Rebalance when U.S. or international drifts >5% from target
Remember: The world is bigger than the United States. True diversification means thinking globally!
"Wide diversification is only required when investors do not understand what they are doing." — Warren Buffett
(But for most of us, global diversification is essential!)
Your future self will thank you! 🌍🚀📈
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