The Benefits of International Investment Equity - Assignment Example

Introduction Foreign investment is no longer new in the 21st century, this is because of the growth of the global economy as a result if globalization. The communication infrastructure of the modern day cannot be compared to the communication platform that was available in the past five decades. The television, the radio and the internet have increased information dissemination from one place to another within a very short time. The technological revolution has ultimately varied the way business is done and the stock market has not been left out. The stock market in the US has been lucrative over the past few decades; the modern decline in the relative earnings of the pure US stock can be attributed to globalization and transfer of information from one place to the other. Information dissemination is vital for decision making process and especially in the stock market. This analysis focuses on the benefits of international investment equity which forms the basis of the recommended financial strategy based on the selected market scenario. International investment equity generates unique variables not available in the local market; this includes diversification, meaning reduction in risks and increase in expected returns, better investments options are also discussed in details. The strategy proposed to the risk averse American is based on the unique market conditions of the three stock makers, United Kingdom, Japan and Hong Kong. The rationale for the decision making is based on the amount of risks associated with each market and hence the creation of a balanced and a diverse portfolio. Benefits of international equity investment As compared to the past decade, the US market is no longer lucrative with strong stock market. Its share of global stock market has declined steadily since 2002; the US domestic market is therefore no longer the dominant and the most lucrative as before. Based on this fact, it is no longer wise to invest only in the US domestic market. More so, studies reveal that investment in mix domestic stock market and foreign market produces better returns as compared to investing on a pure domestic market alone. Globalization is also another major factor that has fostered the growth of international equity investment. The growth in communication infrastructure means that information from one end of the world can reach the other within seconds. Live streaming of different events happening in different regions spurs different market reactions and lead to either increases or decrease of market share price. The growth and the changes in the stock market can be attributed to the changes in technology; this is simply because technology facilitates easy transfer of information from one point to the other. The growth of the internet has particularly enhanced the dissemination of information from one point to the other within seconds. This has thus increased the efficiency of information which is necessary for decision making in the liver market trading. In fact, most international stocks have turned online in trading; online forex is a good example of this form of stock International investment decreases the risk of investment because of risk diversification. This is because of the varied business cycles in different countries; this reduced the risk and also increases the liquidity of the investment. As an example, when the US market is under recession, it is difficult to convert the investment portfolio into liquid cash, this will not be the same case of the investment is diverse since different regions have varying market and business behaviors. A divers investment also has a higher rates of returns as compared to a single market stock. This is evident from the fact that there has been a significant decline in the US equity premium over the past four decades. This can be attributed to globalization or the growth of other nation’s economies, Asia and specifically China is a good example of a developing economy that has seen its growth of GDP to more than $4 trillion. This growth in itself has shifted the market to Hong Kong the main gateway to mainland China. Another main benefit of international equity investment is the many opportunities as compared to a pure domestic portfolio. The international market has diverse and specialized business opportunities, Asia is good in making electronics and automotive products, China’s Telecom has a wide market, and all these are opportunities for international equity investment. International equity thus gives opportunities for varied investment, In the UK for instance, the listing of international companies such as BP give a chance for a risk averse entrepreneur to make a choice on the stock portfolio balance to make. This is an important aspect in terms of investment. More so, there are many asset portfolio experts present in all the major stock exchanges, their presence is of great importance especially because of their informed service expertise that they provide to investors. More so, investors do not have to bother studying the foreign market, these experts provide all the necessary information that is needed for decision making. They thus provide investors an added advantage in the foreign market. The experts are also responsible for the creation of a diverse portfolio that considers all the risk in the market. The more diverse the risk, the more the expected return rates and the lower the risk, it is also more liquid as compared to a one stock market. Professional management of portfolio is also enhanced as a result of investing in foreign equity. Since most investors do not have the time or expertise in the management of large portfolio securities. This task is given to professionals with better expertise and experience to track the daily funds holdings and make decision of the type of stock to purchase and the ones to sell. The availability of professional fund handlers means that the administrative responsibilities are delegated to expertise that will be responsible for the share ownership. They issue statements about the accounts with information such as status of taxes and capital gains dividends to be received. Liquidity is another main benefit of investing in a foreign or diverse stock, liquidity means the ability to convert all the shares in a business day and be in a position to receive all your benefits during the market close. Funds value fluctuates depending on the different market condition and thus at the redemption of the investors shares, the shares could be more or less as compared to their original cost. Financial strategy which reflects on characteristics of the selected stock markets A comprehensive financial strategy that is best suited for the averse-American investor ought to be diverse; this is because of the need to spread risk. Different markets behave differently and are not dependent upon each other, since there are risks associated with foreign investment such as political and economic issues of different markets, a portfolio should be contain various market stock in percentage of the cumulative total in order to reduce the risks associated with different stocks in different regions. The characteristics of the selected market stocks, Hong Kong, United Kingdom and Japan are analyzed as follows; Hong Kong stock portfolio Hong Kong has one of the best and unique business environments, with a population of 7 million people and a per capita GDP of US$43,700; it is evident that Hong Kong business environment is thriving. Hong Kong is a stable economy and vital for foreign entrepreneurs accessing the Chinese economy. Hong Kong is strategically located; it is the entry gate to China. Hong Kong also takes advantage of the prosperity of the mainland China, most trading activities of the mainland China are conducted in Hong Kong and all these companies have a listing in Hong Kong as it is a major overseas exchange (Best & Soulier 2010). The legal system of Hong Kong is based on the English common law and hence making it an established legal system which is strong and attractive to foreign companies aiming at raising funds, the investors on such stocks are particularly confident because of the strong legal system. More so, Hong Kong is a well regulated market, in essence, it is the second largest market in Asia and it is also one of the most active securities in the market. Just like the major stock markets like London and New York, Hong Kong is one of the best stock market and investors have equal confidence it this market just like the major stock exchanges. Hong Kong is also rich in international financial institutions and securities experts with international qualification. These professional enhance valuable trading because of their experience to provide the best quality services in diverse global investment products and transactions (Com 2008). UK stock market The United Kingdom is one of the most politically stable countries in Europe, it also has a very stable economy and it is sixth in the world in terms of Gross Domestic Power (GDP) with about $2.3 trillion. The UK market environment is one of the most respected listing in the world. The London Stock Exchange is also the highest in cumulative market capitalization in all the European stock exchanges; in essence it is the third largest stock exchanges in the world with a market capitalization of more than $3 trillion. All the shares are traded freely with no restrictions of the shares, unlike in the US; there are no Sarbanes-Oxley requirements regulations and hence making the reporting process much faster (Eckett 2012). The UK marker is also one of the most liquid and attracts large trading volumes than most of the world exchanges apart from a few such as NASDAQ and NYSE. Companies easily get listed in the London Stock Exchange, it takes about 4 months to be listed, and this is much faster as compared to other stock exchanges in the world where the period of listing is much longer. Globally, the London Stock Exchange is the most accepted exchange in the world and it also received large capital investment. The London Stock Exchange is also varied in nature with all types of companies dealing in different businesses and fields; it ranges from biotech companies to banking and engineering (Eckett 2012). Most blue chips in the world are housed in the UK; some of these companies include Rio Tinto, BP and GlaxoSmithKline. This makes the UK one of the most stable economies in the world and hence less risky. Notably the UK market is made up of 70 % service economy hence meaning that stability in the country depends on the consumer credit and commodity prices can rapidly cause instability. The best way to invest in the UK market is through exchange traded funds (ETFs), ETFs is a diverse investment integrated into one security and traded like stock(Eckett 2012). Japan Stock Market Japan is one of the most developed and stable country in the world, with a GDP of about $4.6 trillion and a population of 126 million people. The recent tsunami and earthquake threatened to destroy the country’s economy. The bank of Japan injected $183billion to aid the in the recovery of the economy. The recovery of the stock market has been somewhat slow but analysts are predicted that the stock market will increase since 2012(Cook, & Choi 2005). After plunging in the aftermath of the combined tsunami and quake, the Nikkei 225 stock average increased by 69 % last year after a decline of 31% in 2011 due to the earthquake disaster. In the 1990s, Japanese stock market has been characterized by two main features, firstly, the stock market has been volatile in the past 10 years, and another issue involved the dominance of cross-shareholdings and individual stagnant shareholdings (Cook, & Choi 2005). Recommended equity investment strategy In order to make a comprehensive equity investment strategy, there are fundamental concepts that ought to be understood in order to make informed decision. There are two most common and fundamental concepts in the stock market, the expected returns on investment and the risk factor. These variables are in most cases related in the following way, the more the expected returns the higher the risk involved in the investment plan. The lower the risk the lower the expected returns on investment. In some cases, this assertion may not hold, the figure below elaborates this assertion. (Best & Soulier 2010 ) The expected returns are the amount of expected earnings on an asset given its price, growth and potential. On fundamental way of deriving the expected returns is using the past or historical data. In this way, the data available can be used to predict the future or the expected returns in future. Risk is the possibility that the actual return will vary from the expected returns. This is because of the market factors and uncertainties such as inflation and other economic variables of the market such as volatility. Some factors which increases risk includes, political changes, instability and decision making, inflation in the market or international market depending on the limit of the stock market, the growth rates of different markets listed in stock exchange, general business form changes due to change in customer behavior, the future expectations of a company among others (Israelsen 2010). The other imperative fact on equity investment is the diversification on stock portfolio risk. Diversification of the stock portfolio means that a single portfolio is made in such a ways that it is a cumulative share of different and varying assets. The diagram below shows diversification on stock portfolio risk. (Best & Soulier 2010 ) As shown above, the correlation coefficient measures how the returns vary together as a combined unit. The correlation coefficient ranges between -1.0 and +1.0. Positive means that the returns are moving in the same direction while the negative correlation means that the returns are moving in different direction. Through combination of different assets, the overall risk is significantly reduced and hence the meaning and the basic reason for stock diversification portfolio. A risk-averse entrepreneur will always invest in a diverse portfolio in order to reduce risks associated with the investment of one stock (Israelsen 2010). In order to significantly reduce the investment risk, it is recommended to create a potential stock to be bought in various stock markets such as Hong Kong, Japan and United Kingdom. Then, assess the stock market performance over the past at least one decade. This consideration will reveal useful data that can be used to increase the chances of accurately predicting the future. More so, it is essential to evaluate the performance of different companies listed in the stock exchange over the past decade (Israelsen 2010). This will also reveal their status in terms of growth and profitability as well as their aims of expansion and possible future profitability. All these considerations are essential because they give the entrepreneur fundamental knowledge about the market and the expected market changes which is vital for decision making process. In this case, the recommended strategy is a combination of all the stocks available in the three countries Hong Kong, United Kingdom and Japan in a ratio of the overall diverse stock portfolio as shown below; Intended Investment (100 %)= X % of Shares in Hong Kong Stock market + Y % of shares in United Kingdom stock market + Z % of shares in Japan Stock market The decision of the % shares to be purchased will be based on the market performance in the past decade as well as the stability of the market and its size and growth potential. In this case it is recommended to make the following investment plan. Invest 45 % in Hong Kong market, the reason for this is because of its stability given China’s recent improved economic performance in terms of GDP, it has surpassed Japan in the past few years and now the second largest after US. It thus has more potential growth as compared to UK and Japan (Israelsen 2010). The second option is investing 35 % in the UK stock market; this is fundamentally because of its stability and its size. The UK is one of the largest stock market in the world and the largest in Europe. The third investment is 20 % stock in Japanese market, this is because of its volatile status, the recent tsunami and earthquake plunged the Japanese market, fears of the same occurrence are still in the minds of the investors and hence compromising its stability. The overall diverse investment portfolio will be as follows; Intended investment (100%)= 45 % of Shares in Hong Kong Stock market + 35 % of shares in United Kingdom stock market + 20 % of shares in Japan Stock market. As noted by Israelsen (2010, p.160) the reduction in the premium equity over the past 4 decades in the US has necessitated the need for portfolio design and management. The equity premiums are reducing and hence the need to create a sustainable and reliable portfolio which can be relied on to make expected returns in the future. Unlike bonds, equity premiums are the extra returns on investment when investing in stock. It is therefore essential to design a portfolio which takes into account a reduced equity premium. This is fundamentally because of the fact that portfolio primarily composed of a larger-cap of US stock is no longer viable when equity premium is used as a guideline. According to Best & Soulier (2010 ) in the 40 year period from1970 to 2009, the equity premium has been on the decline in the US market. Based on this it is no longer a wise decision to invest in US stock alone, it is wiser to invest in international equity premiums or stocks in order to get the maximum expected returns while factoring in related risk such as inflation and change of market conditions that adversely affect the returns on investment. Conclusion As analyzed international equity investment generates many advantages, some of the notable advantages include risk diversification which decreases risks and increases expected rates of return on investment. It also provided more opportunities to the investor as well as expert information from the stock professionals present in the international market. Investing in international equity increases the liquidity of the investment. This is because if one market is affected by recession another market is less likely to be affected by recession and hence the possibility to trade the stock at any business day. The suggested investment portfolio for the averse American entrepreneur is a combined stock purchase from all the three selected regions selected for analysis. The rationale for the varying ratios of purchase is based on the perceived risk and market potential of every region. The portfolio created thus factors in all the consideration of all the regions. Since the reason for the investment in different regions is to decrease the risks associated with one market, a variety of them make a single and reliable portfolio for investment. The market conditions in these regions are not depended on each other but independent from each other and hence meaning that the investor can still get returns despite the hard conditions in any market place. More so, because of the services of the stock professionals investment in potential companies will be enhanced and hence further increasing the rates of returns on the investment. A pure US stock market is no longer viable based on the equity premiums guidelines; this is because a homogenous market is prone to inflation and other unfavorable market condition. A heterogeneous market on the other hand is not prone to inflation and other hindering market conditions. This demonstrates the significance of having a diversified investment portfolio. References Best, M & Soulier, JL 2010, International Securities Law Handbook 3e Revised: Third Edition, Kluwer Law International, Kluwer Law International Hong Kong. Com, JJ 2008, China Stock Market Handbook: (and Hang Kong Stock Market), Javvin Technologies Inc., Hong Kong. Cook, D  Choi, WG 2005, Stock Market Liquidity and the Macroeconomy: Evidence from Japan, Issues 2005-2006, International Monetary Fund, New York. Eckett, S 2012, The UK Stock Market Almanac 2013: Seasonality Analysis and Studies of Market Anomalies to Give You an Edge in the Year Ahead, Harriman House Limited, London. Israelsen, Cl 2010, 7Twelve: A Diversified Investment Portfolio with a Plan, John Wiley & Sons, New York, p.159-171. Read More