International Stocks, Currency and Home Bias

If you live and work in the United States, your paycheck, your home and probably your pension all depend on one economy. The question this chapter answers is whether your stock investments should depend on it too. US stocks have done so well for so long that holding anything else can feel like a drag. The case for going global is not that other markets will win; it is that no one can know which market will lead next, and the cost of being wrong about your home market can last a decade or more.

What the world market looks like

US companies make up a large share of the world's stock market value, roughly three-fifths by most index providers' counts in recent years, a share that has risen and fallen over the decades. The rest is split between other developed markets (Europe, Japan, the UK, Canada, Australia) and emerging markets (China, India, Taiwan, Brazil and others). A global index fund holds them all in proportion to their size. The exact current split is in the fact sheet of any total world or total international index fund.

Most investors everywhere hold far more of their own country's stocks than its share of the world would suggest, a pattern economists call home bias. Kenneth French and James Poterba documented it in 1991 for US, Japanese and British investors, and it remains common. Some home bias is reasonable, since you spend in dollars and US companies earn a good part of their profits abroad. The question is whether yours is a decision or an accident.

Why a single market can disappoint for a long time

The record from 1928 shows US stocks rewarded patient investors handsomely. It also shows long stretches when they did not. From 2000 through 2009, US large-company stocks returned -0.95% a year, dividends included.

An investor who put $100,000 into US large-company stocks at the start of 2000 had about $90,896 ten years later, before inflation. Over the same decade, developed international stocks did somewhat better and emerging-market stocks much better. In the decade that followed, the order reversed and US stocks led by a wide margin.

The most striking case is Japan. In 1989 Japanese stocks were among the most valuable in the world and many investors there held mostly domestic shares. The main Japanese price index did not regain its 1989 peak until 2024, more than three decades later. Nothing guarantees that a strong home market stays strong, and a long run of leadership tends to come with higher prices relative to profits, which can mean lower returns ahead.

International diversification does not prevent losses in a global crash; in 2008 and in early 2020 markets everywhere fell together. Its value shows up over longer periods, when one region stalls while others grow.

The costs and complications

Going global is cheap today, but not free.

• Slightly higher fund costs. Broad international index funds usually cost a little more than broad US ones, though both are low at large providers.
• Foreign taxes on dividends. Many countries withhold tax on dividends paid to foreign investors. In a taxable account you can usually claim a foreign tax credit for it. If your total creditable foreign taxes are no more than $300 ($600 married filing jointly) and come from passive income reported on a 1099, you can generally claim the credit directly on your Form 1040 without filing Form 1116. Inside an IRA or 401(k), the withheld tax is simply lost, which is one reason some investors hold international funds in taxable accounts. IRS Publication 514 sets out the rules.
• Currency risk, covered next.
• Emerging-market risks: less protection for minority shareholders, sudden policy changes, capital controls, and in some markets limits on foreign ownership.

How currencies change your return

When you own foreign stocks, your return in dollars has two parts: what the stocks did in their own currency, and what that currency did against the dollar. They combine like this:

Return in dollars = (1 + return in local currency) × (1 + change in the currency against the dollar) − 1

If European stocks rise 8% in euros but the euro falls 10% against the dollar, your return in dollars is 1.08 × 0.90 − 1, a loss of 2.8%. If the euro had instead risen 10%, the same stock return would have become 18.8% in dollars. Over short periods currency swings can swamp stock returns. Over long periods they have tended to matter less, and they add a source of variety: when the dollar is weak, often a hard time for US-focused portfolios, foreign holdings gain.

Hedged or unhedged? Some funds hedge currency, using contracts to remove most of the currency effect. Hedging a stock fund has a cost or benefit roughly equal to the gap between US and foreign short-term interest rates, which changes over time. Many long-term investors leave stock holdings unhedged and accept the swings as part of the diversification. For foreign bonds the answer is usually different: currency moves are large relative to bond returns, so international bond funds in diversified portfolios are commonly hedged. Target-date funds from large providers typically follow this pattern.

How much to hold abroad

There is no correct figure, only a range of defensible ones.

• Market weight. Hold each country at its share of world market value, about two-fifths abroad at recent weights. A single total world fund does this automatically.
• What target-date funds do. Funds from the largest providers commonly hold roughly 30 to 40% of their stocks outside the US.
• A moderate tilt home. Many investors settle on 20 to 30% of stocks abroad, accepting some home bias on purpose.
• Little or none. Some well-known investors, including Vanguard's founder John Bogle, argued that US multinationals give enough foreign exposure. The 2000s are the counter-example.

Whatever you choose, pick it before you look at last year's returns, write it into your target mix, and rebalance to it. Investors who add international stocks after a strong run abroad and drop them after a weak one get the worst of both.

Within the international slice, a broad total international fund covers developed and emerging markets together at their market weights. Splitting it into separate developed and emerging funds lets you set your own proportions, at the cost of one more thing to rebalance. Choosing individual countries or regions is a forecasting bet with the same odds as picking individual stocks.