What is an International ETF? How They Work and Benefits #NewsETFs

International ETFs (exchange-traded funds) give investors the opportunity to broaden their portfolios. The U.S. stock market is one of many, and having exposure to international stocks is good for diversification. There’s also no shortage of quality international ETFs available from top issuers.

How they work

How international ETFs work

International ETFs invest in stocks or bonds from countries outside the U.S. Some focus on a single foreign country, while others invest in assets from a broad set of foreign countries or even the entire international market. There are also emerging market ETFs, which are international ETFs that invest in developing countries.

If a fund invests in domestic and international stocks, then it’s a global ETF. These are an option for investors who want U.S. and international exposure in one investment.

Benefits

Benefits of international ETFs

The U.S. stock market and the international stock market have each had periods where one outperformed the other. When U.S. stocks are doing well, investors sometimes question the value of holding international stocks. It’s certainly possible to invest successfully in only U.S. stocks, but international exposure will give you a more diversified portfolio and one that’s more resilient when the U.S. market is down.

An international ETF is one of the easiest ways to invest internationally. Just like the best ETFs for the U.S. market, many international ETFs hold hundreds or thousands of stocks. Most are also passively managed and have low expense ratios.

Another benefit is being able to invest in new, potentially lucrative markets. With emerging market ETFs, you can capitalize on the growth potential of developing countries and possibly earn outsized returns. However, since markets in these countries can be less stable than the U.S. markets, this is a high-risk, high-reward strategy.

How to invest

How to invest in international ETFs

Start by deciding which type of international ETF you want to buy. Most stock brokers will have plenty of options available. If you want to get the broadest coverage possible, you could go with a total international stock market ETF that invests around the world, excluding the U.S. You could also get an ETF for emerging markets, developed markets, or a specific region, such as Europe or the Pacific.

Make sure to check the expense ratio before you invest. As a general rule, a good expense ratio for an ETF is 0.20% or lower. A higher fee doesn’t necessarily mean you need to rule out an ETF, especially if it’s actively managed, but you may want to look around to see if there’s a more affordable alternative available.

You’ll also need to decide how much of your portfolio you want to allocate toward international investments. Advice on this subject varies. Investing giant Vanguard recommends having at least 20% of your portfolio in international stocks, while Charles Schwab (Schw -0.55%) suggests 5% to 25%.

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Historical example

Historical example of U.S. vs. international stock performance

Stock market returns from the 2000s are an example of why it makes sense to invest in international ETFs. During that decade, the MSCI EAFEan international stock index, outperformed the S&P 500 for seven out of 10 years. Even in 2003, the S&P 500’s best year, when it returned 28.68%, the MSCI EAFE beat it with returns of 38.59%. The S&P 500 would bounce back, outperforming the international index eight out of 10 years during the 2010s.

Historically, each market has gone through cycles where it posted better returns. Investing globally isn’t necessarily about maximizing your portfolio’s performance. It’s typically a strategy that investors use to lower their risk.