Diversifying Beyond Borders: Exploring the Impact of Geographical Diversification

Diversification is a fundamental principle of investing. By spreading capital across different asset classes, industries, and individual stocks, investors reduce risk and improve portfolio stability. However, one key aspect of diversification is often overlooked—geographical allocation. Investors tend to concentrate their investments in their home country, a phenomenon known as home-country bias. This occurs when investors prefer familiar markets and companies, assuming that domestic investments are safer or more predictable. While this approach may feel comfortable, it leaves investors vulnerable to localized economic downturns and limits potential opportunities.

The core principle of geographical diversification is to protect against localized risks and unlock global return potential. Instead of concentrating solely on a single country, investors spread investments across multiple economies. While global equity markets often move in tandem, sufficient divergence typically exists between national stock markets to yield diversification benefits. Diversifying geographically ensures that while one market tumbles, others could still thrive, potentially maintaining overall stability.

In this post, we analyze how diversifying beyond the U.S. market impacts portfolio performance. To examine the impact of geographical diversification, we allocate 40% of the portfolio to a foreign equity ETF while keeping the remaining 60% invested in U.S. stocks selected according to the WealthEngine.AI portfolio strategies. This allocation is rebalanced monthly to maintain the 40% weight in the foreign equity ETF. We begin by examining broad international exposure using the iShares MSCI ACWI ex U.S. ETF (ACWX), which provides exposure to both developed (excluding the US) and emerging markets. Then we take a more targeted approach by allocating to specific regions and countries, evaluating the effects of investing in Europe and Japan (from developed markets) as well as China and India (from emerging markets).

iShares MSCI ACWI ex U.S. ETF (ACWX)

iShares MSCI Japan ETF (EWJ)

iShares MSCI Eurozone ETF (EZU)

iShares MSCI China ETF (MCHI)

iShares MSCI India ETF (INDA)

Conclusion

Geographical diversification is a crucial yet often overlooked aspect of building a resilient investment portfolio. By spreading investments across multiple economies, investors can reduce dependence on any single market and mitigate the risks of home-country bias. While global equity markets can be correlated, regional differences in economic cycles, monetary policies, and industry strengths create opportunities for risk reduction and enhanced returns. We have analyzed the effect of adding international ETFs with a 40% allocation, rebalanced monthly, alongside all the WealthEngine.AI U.S. portfolios. This includes broad international exposure through ACWX as well as ETFs of individual developed and emerging markets.