Is International Diversification Worth It?

Key Takeaways

• Non-US stocks are experiencing a performance surge so far in 2025, and one of the key reasons is that valuations were cheaper overseas. Another big factor is that the dollar has fallen relative to major foreign currencies.
• Despite fairly high correlations with the US market, investors should still keep the faith in non-US equities.
• Emerging markets have had a much lower correlation with the US market than developed-markets stocks, so investors who are diversifying overseas should include a component of emerging markets.
• The global market cap is a great starting point for investors trying to set up their portfolio asset allocation to non-US stocks.
• An unhedged bond portfolio starts to behave a little bit more equitylike because of the comings and goings of the foreign-currency swings, so it isn’t a must-have for investors’ fixed-income portfolios.

Margaret Giles: Hi, I’m Margaret Giles from Morningstar. For many investors, adding international exposure is one of the first steps toward a diversified portfolio. And after years of underperformance, non-US stocks are making a comeback. Joining me to discuss the role that international diversification should play in a portfolio is Christine Benz. Christine is Morningstar’s director of personal finance and retirement planning and host of The Long View podcast. Christine, thanks for being here.

Christine Benz: Margaret, it’s great to see you.

Why Non-US Stocks Are Experiencing a Performance Surge in 2025

Giles: So non-US stocks are experiencing a performance surge so far in 2025. What’s working in their favor?

Benz: Well, there are a lot of things. I would say the key one that comes to mind for me is just that valuations were cheaper overseas. So when we had the tariff-related news spook US stock investors, it was easy to turn outside the US. I think that that’s a huge catalyst. There’s been some stimulus in some major non-US markets like Germany, which has been a nice tailwind for stocks there. Then another big factor is that the dollar has fallen relative to major foreign currencies. As a foreign-stock investor, you enjoy a boost if you’re in an unhedged portfolio of foreign stocks, when your gains are translated back into US dollars, if the foreign currencies have appreciated during your holding period, that is going to benefit you as a foreign-stock investor. So that has been another key catalyst for non-US stock performance looking so good so far in 2025 relative to US.

Why Non-US Stocks Did Not Fare Well in 2024

Giles: So a couple of factors at play there. In a recently published Diversification Landscape Report, you and the team look at how well various asset types help diversify US equity exposure. So how did foreign stocks fare?

Benz: Well, it’s not looking like a particularly pretty picture for non-US stocks. We’ve seen the correlations with the US market creeping fairly steadily upward, especially for developed-markets equities, European equities, UK equities, have really risen in terms of their correlations with the US market. We tend to see a very sympathetic performance pattern. So from the standpoint of correlations, non-US stocks don’t make a terribly good case for themselves through 2024.

Benefits From International Diversification in Your Portfolio

Giles: Yet despite those fairly high correlations with the US market, you think that investors should still keep the faith in non-US equities. Why is that?

Benz: Well, the key reason, Margaret, is that correlations don’t tell the whole story in terms of the return patterns of various asset classes. So US investors have had a very different experience with the US equity-only portfolio relative to a portfolio that would include non-US equities. And sometimes that can read down to their benefit. Certainly over the past 15 years, US equity investors have had a much better return experience than investors who are in foreign stocks. But there have been periods of time, 2025 so far is shaping up to be one, the period from 2000 through 2009/2010 was another one where non-US stocks had very strong returns relative to US. I would say that for investors, if they’re aiming to run a fully diversified portfolio, I would certainly include non-US stocks in the mix simply to experience a range of return patterns.

Why Investors Should Include Emerging-Market Stocks When Diversifying Internationally

Giles: So you also think that investors should be sure to include emerging-markets stocks in their non-US equity portfolios. Why is that?

Benz: Well, it really jumps off the page when you look at the correlations data among various subsets of non-US stocks. You see that emerging markets have had a much lower correlation with the US market than developed-markets stocks. I think that investors, if they are diversifying overseas, they should include a component of emerging markets. They don’t need to run out and buy an emerging-market-specific fund or ETF. Most broadly diversified foreign-stock funds will include a segment of emerging-markets equities.

How to Incorporate an International Diversification Strategy in Your Portfolio

Giles: So how should investors go about setting their portfolio asset allocation to non-US stocks?

Benz: I think the global market cap is a great starting point. So if you look at a total world stock index today, the US market is about 60% of that index and non-US accounts for the other 40%. That’s a good baseline. In fact, many target-date funds use that as kind of a way to set their non-US relative to US allocations. There’s an argument for investors may be stepping off reducing their non-US exposure a little bit as they age and get closer to spending from their portfolio because of the foreign-currency exposure, which is a little bit of a wild card and can add some volatility to their returns. But I would say retirees should still maintain a healthy allocation to non-US stocks, maybe like 25% of their equity exposure is sort of a baseline.

Why Role Should Non-US Bonds Play in a Portfolio?

Giles: So to wrap up, what role, if any, should non-US bonds play?

Benz: Well, I don’t think they’re a must-have for investors. When you look at a hedged portfolio of non-US bonds, you see a very high correlation with the US bond market. If you look at an unhedged bond portfolio, a basket of non-US bonds, you see a lower correlation with the US bond market. The trouble is that an unhedged bond portfolio starts to behave a little bit more equitylike because of the comings and goings of those foreign-currency swings. So I don’t think it’s a must-have for investors’ fixed-income portfolios. I’m a little less dogmatic about investors diversifying globally their fixed-income exposures. I think that it really matters with the equity exposure.

Giles: All right. Thanks, Christine, for giving us some insight into international diversification.

Benz: Thank you so much, Margaret.

Giles: I’m Margaret Giles with Morningstar. Thanks for watching.

Watch What Higher Yields Mean for Your Portfolio and Plan for more from Christine Benz.