Subject: Where's your wealth? A look at home country bias
For Internal Use Only
October 29, 2019
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Where's your wealth? A look at home country bias
Estimated reading time: 2 minutes
Within the confines of a 1984 courtroom, the old American Telephone & Telegraph (AT&T) was charged with conspiracy to monopolize U.S. phone services. As a result of the judgement, the company was forced to split. This led to the creation of seven regional phone providers, referred to as the "Baby Bells". While the ruling left a lasting impression on the industry, it also spawned an interesting social experiment.
When AT&T formally split-up, existing shareholders were given equity stakes in each of the seven regional providers. Interestingly, though, a study conducted a short time later found that investors tended to hold onto a disproportionate number of shares in their local, regional provider, while selling those servicing other regions. This suggests investors were confident their regional provider would outperform the others.
This story highlights one of the first observable occurrences of home country bias (in this case, regional bias) and the tendency of investors to favour companies whose products and services they know best. Today, this phenomenon has expanded beyond U.S. regional phone providers and is observable in all corners of the world.
Source: Global index weight reflected by country's weight in the MSCI All Country World Index as of May 31, 2019. Investor holdings in domestic market sourced from the IMF, as of December 2014.
Although your clients may feel more comfortable choosing investments that are close to home, a home country bias can leave them at greater risk if their domestic economy falters. For Canadians, there are two reasons for this higher risk:
1. A smaller field of opportunity. Canada represents only a small fraction of global GDP and 3% of the world's capital markets. This means that 97% of the world's investment opportunities are to be found outside of Canada.
2. Concentration risk. Canadians who only invest at home face a greater concentration risk. For example, the Canadian stock market is heavily dominated by three sectors: Energy, Financials and Materials -- and the 10 largest companies in the S&P/TSX Composite Index account for more than a third of the total index.
To counter these risks, investors can look abroad to achieve greater diversification. By diversifying globally, your clients may increase their return potential, while also lowering volatility.
As Sarah Riopelle outlines in a recent LinkedIn article , "diversifying globally is critical to investment success and a key driver of long-term investment performance." With RBC Global Asset Management as their guide, your clients can confidently become world-wise investors.
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Resources to assist with your client conversations
Minding the concentration risk
RBC GAM Podcast: Avoiding home-country bias
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