(PUB) Investing 2015

May 2015

Morningstar FundInvestor

11

Global Funds That Lean Heavily Toward the USA Red Flags | Bill Rocco

overseas companies tend to have higher payout ratios and yields than domestic firms, this fund regularly has a relatively hefty foreign stake and currently has 19 percentage points more than the world-stock average of 49% in international stocks. As a result, this fund has lagged 94% of its peers and returned 7 . 0 percentage points less than the group norm of 6 . 5% during the 12 months through April 30 . Tweedy, Browne Worldwide High Dividend Yield Value has long-term appeal: Its strategy is sound; its management team is seasoned and skilled; and its overall record is strong. But it will face a severe headwind as long as foreign stocks signifi- cantly underperform U.S. equities in dollar terms. Meanwhile, if the U.S. dollar depreciates—or if U.S. stocks fare worse than their overseas counterparts do—a number of world-stock funds will be at a major disadvantage versus their rivals, including Janus Global Research JAWWX . This fund does not hedge its foreign-currency exposure, either. But this fund, which is overseen by the firm’s director of research while its analyst team picks the stocks, has 6 percentage points more than the world-stock average of 51% in U.S. equities, as the team has found significantly more names at home than abroad that meet its growth and other criteria. And thanks to that overweighting in U.S. equities, plus the quality of the team’s stock selection in the health-care sector, this fund has outpaced 94% of its peers and returned 6 . 7 percentage points more than the group norm of 6 . 5% during the 12 months through April 30 . Janus Global Research also has the quality of its analyst team, a good long-term record, and an attractive expense ratio in its favor. However, its unhedged currency stance and oversized U.S. stake will be burdens if foreign currencies or foreign stocks outperform. K Contact Bill Rocco at bill.rocco@morningstar.com

World-stock funds with relatively hefty stakes in foreign equities have generally fared worse during the past year than those with relatively light stakes because international equities have lagged far behind domestic ones in U.S. dollar terms. The MSCI All Country World Index ex USA has returned just 7 . 5% in dollar terms during the 12 months through April 30 , 2015 , in fact, while the MSCI USA Index has gained 12 . 5% . This disparity in returns has more to do with currency performance than with stock market results. Foreign equities have actually outpaced U.S. stocks during the past year. (The MSCI All Country World Index ex USA has gained 14 . 7% in local terms during the 12 months through April 30 .) But the U.S. dollar has appreciated versus the euro, pound, yen, and many other currencies during the past year, and most world- stock funds do not hedge their foreign-currency exposure. (U.S. funds that do not hedge their foreign- currency exposure have to translate the returns of their overseas stocks back into the dollar, while those that fully hedge do not and get the local returns of their international holdings.) Many experts think that the U.S. dollar will continue to appreciate versus many foreign currencies in the shorter term, largely because the Federal Reserve intends to raise interest rates in 2015 , while the European Central Bank and the Bank of Japan are expected to maintain loose monetary policies in ongoing efforts to stimulate growth. If the U.S. dollar does continue to appreciate—or if U.S. stocks perform much better than their overseas counterparts—a handful of world-stock funds will remain at a marked disadvantage versus their peers, including Tweedy, Browne Worldwide High Dividend Yield Value TBHDX . This fund does not do any currency hedging. What’s more, partly because

What is Red Flags? Red Flags is designed to alert you to funds’ hidden risks. Such risks can take many forms, including asset bloat, the departure of a solid manager, or a focus on an overhyped asset class. Not every fund featured in Red Flags is a sell, and in fact, some are good long-term holdings. But investors should be prepared for a potentially bumpier ride in the near future.