There was an article in the NY Times Sunday titles “For Foreign Stocks, The Sure Bet Is Over.” As is often the case the headline writer sensationalized the article a tad but there are some important things to think about if you are one to invest in foreign equities one way or another.

A few years ago there were some especially cheap areas in foreign and emerging and many of those areas are no longer cheap. I saw elsewhere that Petrobras (PBR) used to trade with a mid single digit PE ratio, then a couple of years ago it had close to a US market multiple and now it’s higher than the US market. This isn’t necessarily a reason to buy or sell the name, if oil does go to $200 in short order, as some think, PBR is likely to go along regardless of the valuation.

PBR is an example …

It is ironic that US REITs year-to-date have outperformed US stocks, non-US developed market stocks, and emerging market stocks, as well as directly owned commercial and residential real estate. Only commodities have outperformed REITs so far this year.

VNQ, ICF, IYR and RWR are still down from 17% to 20% on a trailing 12-month basis, but they provide a 12-month distribution yield of from 3.90% to 4.75% which is more than the current 10-year T-Bond rate of about 3.70%.

How vulnerable REITs are to a reversal of fortune is unclear.  If the economy is as vulnerable to major recession as some say, the rental income of REITs may not prove as strong as expected, which would tend to lower the distribution yield.  Continued outperformance itself, would reduce the yield rate.  …

It is ironic that US REITs year-to-date have outperformed US stocks, non-US developed market stocks, and emerging market stocks, as well as directly owned commercial and residential real estate. Only commodities have outperformed REITs so far this year.

VNQ, ICF, IYR and RWR are still down from 17% to 20% on a trailing 12-month basis, but they provide a 12-month distribution yield of from 3.90% to 4.75% which is more than the current 10-year T-Bond rate of about 3.70%.

How vulnerable REITs are to a reversal of fortune is unclear.  If the economy is as vulnerable to major recession as some say, the rental income of REITs may not prove as strong as expected, which would tend to lower the distribution yield.  Continued outperformance itself, would reduce the yield rate.  Rising interest rates due to inflation* could reverse the yield spread between REITs and T-Bonds, which would take steam from the REITs.

*

One of the principal reasons for asset allocation is risk management. 

Market risk is generally defined as return fluctuation – volatility.  That is different than issue risk (the risk of owning a single stock or bond issue), which includes not only volatility, but also the risk of company bankruptcy or default on bonds.

While most investment professionals understand and take the risk reduction aspect of asset allocation for granted, that is not the case for all investment advisory clients.  We have been asked on more than one occasion, how we know that to be true, and for some evidence of that truth.

There are probably many ways to respond to that question, one of which is with a practical example with real market data.  We have created one such example for this article.

The image below shows the relative weekly return and weekly rate of change of six index investment funds representing six major

As you select asset classes and class weights for your portfolio, you should take into consideration, among other things, the mean return of those classes over different periods of time.

History is no guarantee of the future, but lack of understanding of the past may result surprising returns. It’s a good idea to do all you can to minimize surprises.

The chart shows the relative 1, 3, 5 10 and 15 year annualized returns for six major asset classes. The key feature to observe is the relative size of the return for each class within each year.

You can see bonds as a low return, but stabilizing asset class. You can see the US market has been weak relative to foreign markets. Commodities have been strong. Real estate did well, until it fell out out bed in a major way during the last 12 months.

A representative (but not exhaustive) list