Home Bias: Why One Country Is Not the World
Idea clave
- Almost every investor holds far more of their home market than its share of the world, and almost none of them decided to.
- The spread between national markets over a century is enormous, and two of the sixteen went to zero. That is the risk being concentrated into.
- Global diversification removes country risk, not market risk. Everything still falls together in a crisis — this buys a different protection than people expect.
Ruta de aprendizajeThe index investor's whole jobPaso 12 de 12
Antes que esta:Asset Allocation and Rebalancing: The Decision That Does Most of the Work
Basado en Triumph of the Optimists — Elroy Dimson, Paul Marsh and Mike Staunton, 2002
Two percentages, and the gap between them
Your home market's share of the world, and its share of your portfolio. Most people have never looked up either.
The reasons for the tilt are real but weak: currency matching for future spending, tax wrappers that favour domestic holdings, and familiarity. The first two justify some home weighting. None of them justify the size of the gap that people typically carry.
What a century of national markets actually looks like
Triumph of the Optimists assembled consistent returns for sixteen countries from 1900 onwards, and its contribution was less the averages than the spread — and the honesty about the markets that most datasets quietly drop.
This is why the study matters more than its headline numbers. The familiar long-run equity figures come mostly from the United States, which was the twentieth century's best-performing large market. Using them as the expected outcome is selecting the winner and then treating its result as the average.
The ordinary version of the risk
Twenty flat years is long enough to cover most of an accumulation phase. Japan's market peaked in 1989 and took decades to recover in nominal terms; anyone who held only Japanese equities through that period did everything right by the standard advice and got nothing for it.
The argument is not that any particular market is due for that. It is that you cannot identify which one in advance, and holding all of them removes the need to.
What global diversification does not do
What it does not remove
- Equity risk itself
- Drawdowns in a global crisis
- The need for a bond allocation
What it removes
- Betting on one government
- A twenty-year domestic flat spell
- Concentration you never chose
Being clear about this matters, because people who diversify globally expecting a smoother 2008 conclude it failed. It did not fail; it was insuring a different event. The tool for crisis drawdowns is the stock-bond mix, not the geography.
The currency question, briefly
- Foreign stocks carry currency exposure, and over long horizons that exposure has historically added variation without adding much return.
- Some of it is useful. If your home currency falls, foreign holdings rise in home terms — which is a hedge against the specific scenario a domestic-only portfolio is most exposed to.
- Hedging costs money and complexity. For bonds, hedging to your home currency is usually worth it, because currency swings can be larger than the yield. For equities, the case is much weaker and the common answer is not to bother.
What to actually do
- Look up the two numbers. Your home market's share of world market capitalisation, and its share of your own equity holdings. Write both down.
- Decide the tilt deliberately, if you want one. Some home weighting is defensible for tax and future spending. Pick the figure on purpose and record the reason.
- Prefer one global fund to several regional ones. Regional funds require you to keep deciding the weights; a world fund reweights itself as markets change size.
- Do not fix this by adding an emerging-market satellite to a domestic core. That adds volatility to a portfolio that is still concentrated in one country.
Prueba esta semana
- Find your home market's share of world market capitalisation. It is one search.
- Add up your equity holdings and work out what share of them is domestic.
- Write down the tilt you want and the reason — tax, spending currency, or none.
- Check whether your bond holdings are hedged to your own currency, and whether you knew.
Preguntas frecuentes
What is home bias in investing?
It is the tendency to hold far more of your own country's stock market than its share of the world market would justify. It is observed in almost every country, and it is usually a default rather than a decision.
How much of my portfolio should be international?
The neutral answer is world market weights, which for most investors means the large majority sits outside their home country. Some home tilt is defensible for tax treatment and future spending currency; the point is to choose the number rather than inherit it.
Does global diversification protect me in a crash?
Not much. National markets fall together in a global shock. What it protects against is holding the one market that goes nowhere for twenty years, or the one whose holdings are wiped out entirely — both of which have happened.
Should I hedge the currency risk of foreign investments?
For bonds, hedging to your home currency is usually worth it, because currency movements can exceed the yield. For equities the case is weaker and the extra cost and complexity often are not justified, so many investors leave equity exposure unhedged.
Isn't the US market enough on its own?
It was the best-performing large market of the twentieth century, which is exactly why using its record as the expected outcome is a selection problem. Investors in several other large markets in 1900 would have made the same argument about their own.