3 Top Foreign-Stock Funds

Christine Benz: Hi, I'm Christine Benz for Morningstar.com. Foreign stocks have underperformed U.S. for the better part of a decade, but to be diversified investors still need them. Joining me to share three favorite foreign-stock funds is Russ Kinnel. He is Morningstar's director of manager research.

Russ, thank you so much for being here.

Russ Kinnel: Glad to be here.

Benz: Russ, let's talk about international funds generally. If investors have them in their portfolios, they are probably not loving them, at least over a long time period. Recently, they've been performing pretty well. Let's talk about why investors should keep the faith in having foreign-stock holdings in their portfolio.

Kinnel: The U.S. is about half the world market cap right now, which means, there's a large part that's not the U.S. And historically, the U.S. is just as likely to lag as it is to lead. It's been leading for a while now. And people often talk themselves into thinking, well, either the U.S. is better or foreign is riskier, and I think both are kind of dangerous views, especially if we've had a long run-up. I remember in the late 90s, a lot of people said, all you need is the U.S. And then, the bear market came, and it hit U.S. equities much harder than most foreign. And so, I think it's a dangerous proposition. If the overall world market cap is half, then it seems to me that close to half has got to be your default. I think that means most people are significantly underweight, and I think that's a mistake.

Benz: And maybe as you get older, you'd want to think about having a little bit more of a consideration for volatility, because you do get some foreign-currency volatility especially with some of these funds. So, maybe you'd back off that maybe half weighting in foreign stocks if you're ...

Kinnel: Or you could choose a fund that's hedged or just ones that are less volatile than their peers. But for sure, if you're retired and starting to draw down, certainly that's a little bit of an additional challenge.

Benz: Let's talk about your first pick. This one will be, I think, entirely uncontroversial. This is Vanguard Total International Stock Market Index. This one you can buy either as a traditional mutual fund, you could also buy the ETF version. It's Gold-rated. Let's talk about what's to like about this fund.

Kinnel: Well, the case here is really the case for indexing. Low costs. Large-caps are pretty efficient markets and in a case like this fund, you are covering everything pretty much outside the U.S. When you choose a foreign index fund, one of the key considerations is, Do you want emerging markets or not? This fund has actually more than most of its peers, both index and actively managed, in foreign. But some people say, well, I want active for emerging markets. Either way I think is absolutely fine. Just make sure you look at that because some have almost no EM, some foreign index funds. This one has a fair amount in emerging markets. So, just kind of know that going in. Vanguard has a couple of versions. There are lots of ETFs that have every kind of version you could possibly want.

Benz: Right. Let's talk about Vanguard International Growth. This is an actively managed fund. It's one I own in Morningstar's 401(k). Let's talk about what you and the team like about this one.

Kinnel: Vanguard does a very good job with active funds because they start with very low costs. So, you are only giving up a few basis points over an index fund and yet you got some very good active managers. This fund is divvied up among three subadvisors who are very good managers, and it's really produced outstanding results. So, good managers and low costs. This has a growth tilt, though. So, you may want a value fund to offset it.

Benz: That leads nicely to the next pick. This is Dodge & Cox International Stock. Dodge & Cox certainly many people know for its value bent on the U.S. equity side, but these are pretty good foreign-stock managers as well.

Kinnel: They really are. I own this fund, so obviously I believe in it. Low costs. I really like Dodge's stability. The analysts and managers tend to stay there their whole career. It's kind of a team setup with a lot of hands in the fund, but just a good value strategy. So, I think, I have a lot of confidence in this fund for a long run. If you go back to '08, you see they did take it on the chin then. So, it's not without risk. But I think it's a very solid value fund that would fit in a lot of portfolios.

Benz: Dodge & Cox, of course, sort of at the top of our list when we think of good stewards of shareholder capital.

Kinnel: They are very good stewards. They really think about investors. They keep costs low. They have a good setup for their ownership structure. So, it's not like someone can retire there and then sell them off to a big fund company. They have to sell back to employees of the firm when they retire.

Benz: If investors have not looked at their portfolios, foreign versus U.S. stock weightings, your counsel is maybe to take a look at that, see whether some rebalancing is in order.

Kinnel: That's right. Realize that the defaults are--the overall market is saying about 50-50. So, you should have good reasons for going well away from that.

Benz: Russ, thank you so much for being here.

Kinnel: You're welcome.

Benz: Thanks for watching. I'm Christine Benz for Morningstar.com.