Investors can invest in international stocks, and there can be some benefits to doing so. But there are also considerations to keep in mind, too.
Investors can easily exhibit signs of “home country bias” — the tendency to favor stocks from one’s own country. But investing in international markets can be an important way to diversify and gain exposure to companies benefiting from rapid growth. And while American companies tend to pay higher dividends, investors may find attractive investing opportunities abroad.
Pros & Cons of Foreign Stocks
Investing in foreign stocks isn’t all that different from investing in domestic stocks, in that there may be advantages and disadvantages to both. Here’s a rundown of the pros and cons of investing globally.
Advantages of Investing in Foreign Companies
The U.S. stock market is the biggest in the world. But just because the U.S. market is the biggest, that doesn’t mean it’s the fastest growing or holds the best opportunities for all investors. Here are some of the benefits of investing in international companies:
• Valuations: A bull market in U.S. shares may leave companies richly valued relative to foreign companies.
• Economic Growth: The U.S. stock market is outsized relative to its economy. Buying overseas stocks can be a way to participate in the rapid growth that many regions could see as more of their population joins the middle class.
• Geographic Diversification: Foreign-stock investing allows investors to hedge some U.S. -specific risks by investing in the economies of other countries.
• Sector Diversification: The U.S. stock market can be over-concentrated in tech or tech-linked companies, with the 10 biggest stocks in the S&P 500 comprising an outsized percentage of the overall index.
Recommended: A Guide to Tech IPOs
Risks of Investing in Foreign Stocks
While there are many reasons to invest in international markets, these investments also come with risks that will surprise investors who are accustomed to domestic markets.
Volatile Growth: While overseas countries can post faster-paced growth than the U.S., that expansion can be jumpy, or particularly volatile.
Political or social instability: Depending on the country where they invest, an investor may have to grapple with the possibility of revolution, war or economic collapse.
Reporting Requirements: Not every market is rigorous in the transparency and reporting it requires from the companies on its public markets. That can make it hard to get the full story of what’s happening with an investment. Securities regulation as a whole varies from country to country.
Liquidity: International stocks trade in smaller markets, and certain markets may lack a large amount of buyers and sellers that could make the market efficient. That makes it more likely prices of assets will move with buy or sell orders.
Currency Risk: If a country’s currency sinks relative to the U.S. dollar, then a U.S. investor could lose a portion of the gains in any stocks that are traded in that currency. In the case of a foreign stock traded in the U.S., the currency of which that company does business will have a bearing on how U.S. investors view the company’s earnings.
Higher Fees: commissions and other trading costs related to international stocks are much higher than they are for domestic stocks. That translates into higher fees for a fund, or higher brokerage commissions if the investor buys and sells those stocks directly.
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|
Pros and Cons of Investing in Foreign Stocks |
|
|---|---|
| Pros | Cons |
| Valuations | Political and social instability |
| Economic growth | Volatility |
| Geographic diversification | Reporting requirements |
| Sector diversification | Liquidity |
| Currency risk | |
| Higher fees | |
Finally, it’s worth noting that specific types of stocks may have additional associated risks. If you were looking to invest in an international IPO, for example, there may be more risks in the mix than if you were buying an established foreign stock.
💡 Quick Tip: Before opening any investment account, consider what level of risk you are comfortable with. If you’re not sure, start with more conservative investments, and then adjust your portfolio as you learn more.
How To Trade Foreign Stocks in the US
For investors ready to give international securities a shot, there are several ways to trade foreign stocks in the U.S.
International-Stock ETFs and Mutual Funds
Most investors who want more exposure to overseas markets will want to consider a mutual fund or an exchange-traded fund (ETF).
Investors based in the U.S. aren’t allowed to invest in mutual funds that are domiciled in other countries. That leaves U.S. -based funds that trade foreign securities. Those funds are usually categorized as either “global” or “international.”
They sound interchangeable, but they have one big difference. Global funds own securities from all over the world, including the U.S. International funds, on the other hand, invest only in securities from countries outside the U.S.
Both global and international mutual funds include actively managed funds, where a portfolio manager and a team of analysts pick the securities in the fund. They offer professional investing in unfamiliar lands, but often come with high expense ratios.
And there are also funds and ETFs that invest in indexes. The wide array of indexes and the explosion of ETFs allows investors to use these tools to invest in very specific regions, countries and sectors within those countries and regions.
An ETF can also allow investors to buy quick exposure to the broader international markets. For example, an index fund or ETF that tracks the MSCI World Index would give an investor access to equities in nearly two-dozen countries.
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What Are American Depository Receipts (ADRs)?
Investing directly in overseas securities is where things get a little more complicated. One popular way to own international stocks is to buy American depository receipts (ADRs).
Many foreign companies use ADRs to raise capital in U.S. markets. Each ADR represents some number of underlying shares of the company’s stock, and trades throughout the day. Global Depository Receipts (GDRs) are another way to buy shares in overseas companies. But they are typically traded on the London Stock Exchange and Luxembourg Stock Exchange.
But there are also ways for investors to directly purchase foreign stocks. One is to open a global account with a domestic broker, and most large brokerages offer this option. If investors are targeting opportunities in a specific country, they can open an account with a local broker in that country.
3 Types of International Markets
International stocks as a broad category may be enough for an investor who sees them as a simple way to diversify their overall equity holdings. But different international investments have widely varying risk/reward profiles.
1. Investing in Developed Markets
The first category of countries to invest in are so-called “Developed Markets.” These are countries with industrial and post-industrial economies and mature capital markets, such as the U.K., Australia, and Japan. As a general rule, these offer similar growth and risk to the U.S.
2. Investing in Emerging Markets
The next category is “Emerging Markets,” which are still growing and modernizing to an industrial or information-driven economy. They include places like Thailand and South Korea. Investments in these markets may come with much bigger opportunities for growth. But they also carry the risk that comes with often-political climates, along with other risks unique to the countries they’re in.
3. Investing in Frontier Markets
The third category consists of “Frontier Markets,” which are also known as pre-emerging markets. Companies in these countries, such as Argentina, Bangladesh, and Kenya, come with even larger opportunities, but even more risk, including political and currency instability, as well as very little regulation.
Taxes on International Stock Investments
Just because you might be investing your money outside of the U.S. doesn’t mean that you’re going to be able to avoid taxes. In fact, there may be some tax disadvantages to investing in foreign stocks.
Investment income is subject to U.S. taxation, which includes dividends and capital gains. But there may also be taxes due on your investments that are levied by a company’s home country, too. You’ll need to look into the specifics of individual stocks and countries, but at the very least, anticipate paying investment taxes as you would on domestic stocks.
💡 Quick Tip: Did you know that investment losses aren’t necessarily bad news? Some losses can be used to offset gains, potentially reducing how much tax you owe. Learn more about investment taxes.
How Do You Buy International Stocks?
There are a few ways to buy international stocks, some as previously discussed. Perhaps the easiest or most simple way, for most investors, is to buy stocks directly from international stock exchanges — whether or not you can do that will depend on your individual brokerage or investment platform. Not all of them will allow investors to make direct trades.
You can also use ADRs, as previously covered, or buy international stock funds, like ETFs or mutual funds.
Investing With SoFi
International stocks offer diversification, unique opportunities, and can help investors hedge any U.S. -specific risk. But they also bring their own set of costs and risks. Investors interested in investing in foreign stocks can do so in a number of ways, but there are some pros and cons to consider.
The question of how much of an investor’s total assets should be allocated to international stocks depends on the investor’s expertise, risk tolerance and long-term goals. It may be best to speak with a financial professional for advice.
Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).
FAQ
Can you directly invest in foreign stocks?
You can invest directly in foreign stocks by purchasing them through a brokerage or investment platform. Not all platforms will allow investors to access all foreign stock exchanges, but you can check the specifics to see what options are open to you.
Can US citizens invest in foreign stock markets?
Yes, U.S. citizens can invest in foreign stock markets. You may need to do some research to ensure that your chosen brokerage allows you to access a desired foreign stock market, but broadly speaking, U.S. citizens can invest in foreign markets.
How can you buy foreign stocks online?
You can buy foreign stocks online by purchasing them directly from stock exchanges using an investing platform or brokerage account, or by purchasing foreign stock funds, such as ETFs or mutual funds.
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