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5 Foreign-Stock Funds for Risk-Averse Investors

These international funds have solid records of downside protection and competitive long-term returns, too.

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Note: This article is part of Morningstar's May 2016 Risk Management Boot Camp special report.

For many investors, the idea of achieving international exposure via an index fund makes perfect sense. Funds such as Vanguard Developed Markets Index (VTMGX), Vanguard Total Intl Stock Index (VGTSX), and exchange-traded fund iShares MSCI EAFE (EFA) have become popular choices because they offer broad exposure at a low price. But for some investors, the idea of being fully exposed to the market's gyrations is too anxiety-provoking. In addition, as discussed in this article, there are other risk considerations that come with investing in foreign stocks--currency and geopolitical risks, to name a few.

To help identify some international funds with a solid record of downside protection, I used Morningstar Direct software. First, I screened for funds in foreign-stock categories that earned one of our Medalist ratings--Gold, Silver, or Bronze. (My screen included all international-stock categories, but I focused on funds in the large-cap foreign-stock categories, as they tend to invest 55%-70% of their holdings into stocks in the major markets of Europe, excluding Russia and Eastern Europe, and usually have only a small slice, if any, allocated to emerging markets. Premium members can click here to see all our foreign large-cap medalist funds.)

I included some additional criteria to narrow that list: All the funds listed below have a "low" or "below average" Morningstar Risk score over the trailing 10-year period. This proprietary Morningstar datapoint assesses the variations in a fund's monthly returns, with an emphasis on downside variations. In each Morningstar Category, the 10% of funds with the lowest measured risk earn a "low" risk score, and the next 22.5% score "below average."

I also looked for funds with 10-year downside capture ratios that were lower than 100, which indicates that the fund has lost less than the MSCI EAFE ACWI ex US Index in periods when that bogy has been in the red. Finally, I looked for funds that ranked near their respective category's top decile during 2008, when the MSCI EAFE Index lost nearly 46%.

Here are some funds that made the cut.

Tweedy, Browne Global Value (TBGVX)
Morningstar Category: Foreign Large Value
Morningstar Analyst Rating: Silver
10-Year Downside Capture Ratio: 55.83
2008 Return/Rank in Category: -38.31/9
This fund's managers tend to buy high-quality holdings (such as Safran (SAF) and Roche Holding (RHHBY), both of which have wide Morningstar Economic Moat Ratings, meaning that Morningstar stock analysts think these firms have advantages that will fend off competitors for many years). And they're willing to hold cash when they can't find such names at attractive prices. Both of those elements have helped make this one of the category's least-volatile funds, says Morningstar senior analyst Kevin McDevitt. In addition, hedging the portfolio's perceived economic foreign-currency exposure (this fund hedges most of its currency exposure back into the U.S. dollar) and largely avoiding emerging markets further limits volatility. The fund's 10-year returns of 4.4% per year through April ranks at the top of the foreign large-value category, and it has beaten its benchmark, the MSCI EAFE 100% Hedged to USD Index, by nearly 2 percentage points per year.

Artisan International Value (ARTKX)
Morningstar Category: Foreign Large Blend
Morningstar Analyst Rating: Gold
10-Year Downside Capture Ratio: 69.66
2008 Return/Rank in Category: -30.11%/5
This fund tends to be less volatile owing to its higher-quality tilt, says Morningstar senior analyst Greg Carlson. In addition, it tends to hold up better than peers in sinking markets because the managers typically seek companies that "while undervalued relative to the managers' estimate of value, still have viable business models, and often have sturdy balance sheets as well," Carlson said. Top holdings include U.K.-based Compass Group (CPG) and Switzerland's UBS Group (UBS), both of which have narrow economic moat ratings. This fund has certainly done a great job maximizing return while minimizing risk--it has beaten all of its peers in the foreign large-blend Morningstar Category over the trailing 10-year period through April 30, and it has also outpaced the MSCI EAFE ACWI ex USA Index by 1.7 percentage points per year over the period, with a Morningstar Risk score of "low." One knock against it is its price tag, however: At 1.17% for the investor share class, its fee level is above-average compared with peers of similar size. (This fund is currently closed to new investors, but it could be one to keep on your radar.)

Morgan Stanley Inst International Eq I (MSIQX)
Morningstar Analyst Rating: Bronze
Category: Foreign Large Blend
10-Year Downside Capture Ratio: 83.57
2008 Return/Rank in Category: -33.12/8

The team here favors companies that trade at significant discounts to their estimate of fair value, but they also typically prefer those with sturdy balance sheets and competitive advantages over industry peers (examples include narrow-moat Reckitt Benckiser (RBGLY) and wide-moat Unilever (UL)). The managers are patient investors who are willing to hang on to picks for years (annual turnover is 29%), said Morningstar senior analyst Greg Carlson. As a result of the managers' bottom-up approach, their portfolio often looks quite different from the peer group—often having significant sector bets. That said, fund tends to hold smaller stakes in cyclical fare than its typical peer and the index, and larger weightings in consumer defensive companies (34% of the portfolio as of March 31). Overall, the fund’s cautious strategy can cause it to lag in market rallies, but it has gotten ahead over the long term by staying relatively buoyant in sinking markets. The fund’s 2.6% return over the 10-year period through April 30 is in the foreign large-blend category’s top quintile.

MFS International Value (MGIAX)
Morningstar Category: Foreign Large Blend
Morningstar Analyst Rating: Silver
10-Year Downside Capture Ratio: 67.11
2008 Return/Rank in Category: -31.91/4

This closed fund's managers focus on high-quality firms that have sustainable competitive edges and other strengths, such as enduring revenue and earnings streams and solid balance sheets, says Morningstar senior analyst Bill Rocco. That strategy has led the managers to favor relatively steady stocks in conservative areas like the consumer defensive sector (such as wide-moat firms Colgate-Palmolive (CL) and Nestle (NSRGY)) and to stick with them for the long term (annual turnover is 14%). Rocco notes that the fund is more quality-oriented than its typical foreign large-blend offering, and it also has considerably more mid-cap exposure than its typical peer; its average market cap is significantly smaller than the category norm. This fund has consistently performed better than most of its rivals in downturns, and that has helped it stay ahead of the pack over longer periods, too: The fund's 5.7% annualized return through April 30 is tops in the foreign large-blend category and outpaces the MSCI EAFE ACWI ex US Index by 1.7 percentage points per year.

American Funds New World (NEWFX)
Morningstar Category: Diversified Emerging Markets
Morningstar Analyst Rating: Gold
10-Year Downside Capture Ratio: 86.06
2008 Return/Rank in Category: -46.32/5

It may seem strange to include an emerging-markets fund on a list of funds for the risk-averse, but this fund has long-term appeal as a supporting player in a more risk-tolerant investor's portfolio. Unlike most of its diversified emerging-markets Morningstar Category peers, American Funds New World invests heavily in developed-markets fare (which must derive at least 20% of their revenues from emerging markets). Management's long-held philosophy is that developed-markets companies may sometimes be better positioned to capitalize on emerging-markets growth, says Morningstar analyst Alec Lucas. For example, Lucas points out that although healthcare spending is growing rapidly, there tends to be a dearth of emerging-markets-domiciled healthcare firms. As of the end of March 2016, the fund devoted nearly 57% to large caps in developed markets, such as top holding wide-moat Novo Nordisk. By contrast, only 43% was devoted to emerging-markets stocks, compared with around 70% for category peers. Still, this fund has managed to outperform the typical fund in the diversified emerging-markets category over the 10-year period by more than 2 percentage points, with a fifth less volatility, as measured by standard deviations of returns.

Karen Wallace has a position in the following securities mentioned above: NEWFX, ARTKX. Find out about Morningstar’s editorial policies.