When most people think of the stock market they think of shares from companies that are right here in the U.S. These companies have issued stock, and just about any investor can pick up some of those shares. While overall the world of investments goes beyond just domestic stocks, these investments make up the underlying parts of domestic mutual funds.
A great majority of the investments people have, especially in retirement accounts, are composed of mutual funds. These investments help the individual reduce his or her risk by bundling many different stocks and bonds together and selling them as a unit. One share of a mutual fund may be made up of hundreds of different companies and investments.
Mutual funds that are made up of stocks and bonds from companies that are domiciled in the U.S. are considered to be domestic funds. These funds are often broken down even further than just domestic investments. They can be oriented toward small cap stocks, mid cap stocks, large cap stocks, or even bonds from domestic companies. In order to provide the right investment for every risk tolerance level, the fund companies provide many different domestic funds.
One of the most popular domestic funds is the one that is made up of stock from blue chip companies. These are companies that are large and have had many years of running a successful business model. By doing so, they ensure profitability; with profits come dividends and safety. While all investments carry risk, companies that are old, large, and have a high market capitalization are often less risky. Aside from the benefits of safety and dividends, many people choose to invest in domestic funds due to the fact that they are supporting “local” companies. Not as local as a small business down the road, but the money is staying in the country.
There are many benefits to investing in domestic funds. But each benefit does come with a downside. Investing all in one country can lead to a less diverse portfolio. That means if the U.S. suffers a recession that does not reach to the rest of the world, then a person who has a portfolio entirely made up of domestic funds will see a sharp decline in its value. Someone who has spread the risk out among many different countries may not see as much of a loss in his or her portfolio.
Most people’s portfolios contain some domestic funds. And with reason, they are an important part of having a well diversified portfolio. They offer great returns, minimal risk, and have a socially conscious aspect to them as well. The problem arises when a person has nothing but domestic investments in their portfolio. If you have never looked, take some time to see how your funds are categorized. You can do so easily on morningstar.com.
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I think many novice investors fear investing in international funds because they see the word international and think risky. The truth is, there are great “blue chip” companies in foreign lands as well. The risky international investments are emerging markets and small cap funds. But these investments are also needed for a well diversified portfolio.
Beside the reasons you mentioned here, I prefer to invest domestically because I believe you should invest in what you understand. There may be great deals in Japan or Korea, but what do I know about those companies and the market they serve?
I read a good article in Money Magazine awhile back by a Harvard Professor discussing this vary topic and urging people to diversify their funds more. While we may not understand some businesses in other countries, I think it’s important to be invested (via mutual funds) in those markets. He even went on to urge people to have 50-75% of their investments in international funds as the MAJORITY of Americans assets (cash, house, job) are all tied to the US market.