From a structural perspective, having an allocation to international stocks makes sense because broad geographical diversification can help reduce volatility in a portfolio. Using a market-capitalization-weighted approach, such an allocation would be roughly 60% domestic stocks and 40% international stocks. A mix in that range could make sense in the equity portion of broadly diversified multi-asset investment products used by self-directed investors.
But there are practical considerations—implementation costs, tax repercussions, regulations, and investment costs—that could lead an investor to consider a different international allocation. And in an advice setting, more personalized costs and tax considerations may be considered to help refine the allocation mix.
From a cyclical perspective, investors with the requisite time horizon, risk tolerance, and interest in an active investment management strategy may consider a modest overweight to international stocks given the prospect that they may outperform over the next decade.
Our base case is supported by the figure below, which shows a preponderance of market return simulations in which international stocks return more than domestic stocks over the next decade. Our simulations suggest that a 60% stock/40% bond portfolio with a market-cap weighted allocation to international assets is expected to return 0.6 percentage points more per year on average and 0.4 percentage points less expected volatility than a domestic-only portfolio.
The figure also shows that there’s a reasonable probability that U.S. stocks could continue to outperform. According to our simulations, however, the likelihood of U.S. stocks outperforming in the coming decade by as much as they did over the last decade is less than 1%.