Looking for the next Microsoft – overseas

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 Q. I’m interested in investing in overseas markets, but not the big guys. I want emerging markets and to hopefully find the next Microsoft of countries. Any suggestions? I’m not really worried about risk.

A. Investing overseas is a great way to diversify your portfolio, but the next Microsoft? We’d all love that.

Finding the next Microsoft is like finding the proverbial needle in a haystack, especially if you’re searching in overseas emerging markets, said Jim McCarthy, a certified financial planner with Directional Wealth Management in Rockaway.

“Investing in emerging markets provide opportunities including potential higher economic growth rates, expected returns, and diversification benefits,” he said. “However, due to the significantly higher risks involved, emerging market investing should generally only be undertaken as part of a diversified portfolio.”

All international investing adds currency risk to the equation. This risk is heightened in emerging markets as their currencies are less liquid — not easily traded — than larger market currencies like the Japanese Yen, Swiss Franc or Australian dollar, McCarthy said. Emerging market investing also has significant political risk including civil unrest, disease and nationalization of industries.

He said emerging markets investing peaked relative to the developed world in 2011.

“Emerging markets have a high degree of correlation with commodities and are inversely correlated with the US dollar,” he said. “Therefore, emerging markets tend to underperform when commodity prices are falling and the U.S. dollar is rising – conditions that currently exist.”

If you plan to invest in emerging markets, he said there are basically two ways to go.

One is to use ETFs (exchange-traded funds) if you are looking for broad emerging market coverage. There are very broad ETFs that cover the entire market and country/region specific ETFs if you wish to narrow your focus, McCarthy said.

The other strategy is to use actively-managed mutual funds that invest in emerging markets.

“The argument for using actively managed funds is that emerging markets are `inefficient’ and therefore require active decision making on which stocks to own,” McCarthy said. “The argument for a passive approach — ETFs and indexes — is that they are less expensive and the lower cost has more impact than the `inefficiency’ of the emerging markets.”

McCarthy said his approach is to use ETFs for broad-based emerging market exposure, but actively-managed funds for targeting a specific country or market.

And if you find the next Microsoft, let us know!

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This story was first posted in April 2015.

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