International Mutual Funds

An even easier way to invest internationally is through mutual funds that specialize in foreign investments. Investors invest in international mutual funds in the same way as they choose domestic stock and bond funds. International mutual funds invest in the stocks of foreign countries. Some funds invest in a mixture of countries, including U.S. companies. Depending on their mix of foreign holdings, mutual funds may be classified as follows: international, global, regional, and country.

International funds invest in the securities of companies whose stocks trade on foreign exchanges. Global funds, as the name implies, invest in securities around the world, including those of U.S. companies. Regional funds specialize in the securities of companies located in a specified geographic area of the world. For example, there are funds that specialize in the Pacific Rim area, Latin America, Europe, and the emerging economies. Many of these may be closed-end funds that trade on the exchanges as opposed to the open-end mutual funds that are bought and sold through investment companies or through brokers in the case of load funds. Only country funds invest in the securities of a specified country. Some examples include Japan funds, Spain funds, Portugal funds, Switzerland funds, Chile funds, and India funds. As with regional funds, there are open-end and closed-end funds.

Open-end mutual funds and closed-end funds are discussed in detail in Chapters 14 and 15, respectively. Investors should be aware of the nuances, risks, advantages, and disadvantages of these types of funds before they invest. One of the advantages of choosing international mutual funds over investing in individual foreign stocks is that with a mutual fund, the investor owns a part of a broadly diversified portfolio. To obtain such diversification with individual stocks, investors would need larger amounts of money. International funds are more diversified than sector and country funds. However, when the markets of sector and country funds are “hot,” they can easily outperform the more broadly diversified international funds. The converse is true when these markets slump.

The results of international, global, regional, and country funds depend on their holdings in the funds. If, for example, the bulk of an international fund’s holdings are concentrated in European countries, that fund may not experience the benefits of the worldwide growth of the Pacific Rim and Latin America. European economies are somewhat connected and may have similar economic cycles. Many international and global funds concentrate on certain sectors of the globe and are not broadly diversified. Investors should read the fund’s prospectus with a list of the fund’s country holdings before investing. By identifying the mix of stocks in the different countries, an investor can allocate investments on a geographic basis. For example, an investor who wants a broadly diversified portfolio might have to invest in two different international mutual funds to get this broad diversification. Investing in international mutual funds is advantageous for investors who do not have the time or the inclination to research individual foreign stocks. The portfolio managers of these funds select the foreign stocks after researching the companies and economic climates of the countries.

Another advantage of investing in international mutual funds over individual foreign stocks is that portfolio managers of international funds may be able to reduce the risks of unfavorable currency fluctuations by using hedging strategies. These involve the use of foreign currency options and futures contracts.

Not all the international funds use these strategies, and some use them only on an occasional basis. The objective of international investing is not only to invest solely in foreign stocks that increase in price but also to take advantage of the devaluation of the dollar relative to these currencies. For long-term investors in foreign stocks and/or funds, the currency effects tend to even out over longer periods of time.

Investors need to be aware of the objectives of the funds, the stated returns, the risks, and the fees charged. Invest in funds with low expense ratios.

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