There are stocks outside of Tel Aviv and the USA: should the portfolio also be distributed to the global index?

“When I talk to my friends, there’s almost no one who doesn’t know the S&P 500 or Nasdaq indices,” says an investment manager in a conversation with Globes. “That’s what they read on Twitter, Facebook and in the newspaper, but beyond that – they don’t know indices.”

In the years 2023-2024, local money flowed to Wall Street, as part of the concerns about the legal reform and opposition to it, and in the last year and a half it has returned to Israel – after dream returns on the Tel Aviv Stock Exchange.

“Each year, about 80% of the new money that retail investors put into passive investments goes to the S&P 500. This year may be relatively weak, so it will be 60%,” says Nadav Sahaik, director of research and business development at the best mutual funds. The trend can be understood: in recent decades, US indices have repeatedly beaten the rest of the world, with technology stocks driving the markets, so that investing in the US has become the “new gold standard”.

Still, for the institutional bodies, the comparison index (the benchmark) is in general the stock indices in the world, since they have additional dispersion beyond the US. Sahaik explains that in order for a company to be included in the S&P 500 index, it must be a resident of the US, and it must also generate positive earnings per share for four consecutive quarters. “That’s why giant companies like Taiwan Semiconductor (TSMC), which manufactures chips, South Korean Samsung or SK Hynix in the fields of chips and memory, or the Dutch chip machine manufacturer ASML are not traded in the S&P 500.”

“Retail investors always run after the phenomena of the past, after the rising trend, and ignore the risks of the future. But here lies a high potential to be hurt – because that’s how you buy high and sell low,” adds Dror Berger, investment manager at Altshuler Shaham’s mutual funds.

Therefore, the investment managers suggest to be exposed to indices that are not in the US. The risk will not be completely neutralized, given the fact that there is also a large overlap between the global and American stock market, but it will be smaller.

Geographical and natural distribution

For investors who are interested in spreading their money outside of the US as well, it’s worth getting to know the MSCI World index of developed countries, in which the weight of the US is 74%. The index consists of almost 1,300 stocks from 23 different countries.

Those who want to be exposed to even higher diversification, or alternatively to large stocks such as the chip manufacturer TSMC, should be exposed to the global index, which also includes emerging markets, called MSCI ACWI. It also contains 24 emerging markets and no less than 2461 stocks. There the weight of the USA drops to 64%, and the exposure to developing markets is about 10%.

“In terms of pricing, the predicted profit multiplier for the next 12 months in the MSCI index is about 18.5 compared to 19.5 in the S&P 500, which today is also in a relatively volatile period. That means the global index is slightly cheaper today,” Berger adds.

Another advantage for the global index over the S&P 500 is the currency issue. The exposure to MSCI indices provides geographic and natural diversification. “Since the beginning of last year, we have seen the dollar weaken by almost 8% against the global basket of currencies and this has affected yields,” Berger demonstrates the problem. Unlike investing in the S&P 500 index, which is fully exposed to changes in the dollar (unless you purchase a currency-neutral fund), “the global index also has companies that are not denominated only in dollars, and this provides a certain diversity.” Among these currencies are the yen, the euro, and more.

When you compare the sectoral exposure, you can see the big difference. The three sectors that are considered technological (technology, cyclical consumption and communication services) currently make up 57% of the weight in the S&P 500, but when you move to the global index, the weight drops to 49%, also of course high, but less. A sector that receives a higher weight in the global index is finance, with 16.2% compared to 11.8% in the American S&P index. The industrial sector in the global index also receives a weight of 11% compared to 8.9% in the American one.

“Protection and shock absorber”

The question of whether it is better to invest in the US stock market or rather in the global index is not clear-cut. Although the US produces about 30% of global GDP, there is no guarantee that its absolute dominance in the markets will be maintained forever.

“As soon as you invest in the MSCI index, you let market forces determine the allocation,” says Sahaik. “The average annual return in the US was 13.6% every year for the last decade. Those who dispersed outside the US during these years were actually ‘punished’ with a loss of return of 1%-2% every year. Over 10 years this accumulated to tens of percent, the dispersion increased the yield. This is a lot, but it is designed to reduce the risk.

“On the other hand, if the Japanese, Indian or Chinese markets become more dominant in the future, their weight in the world index will naturally increase. It’s like an insurance policy in case the world changes again. The return you receive is protection and a shock absorber in case the US is no longer the leading economy in the world.”

“Multipliers are more convenient”

So what should investors do now? Sahaik points out that on the one hand “the S&P 500 is a de facto global index: about 40% of the income of the companies in the index comes from outside the US, and in sectors such as technology and materials it is over 50%, so an investor who owns the American index already benefits from a multinational cash flow diversification.”

But on the other hand, he adds that even outside the USA, “the big companies like the fashion company Louis Vuitton, the chip machine manufacturer ASML, the pharmaceutical company Novo Nordisk and the chip giants like TSMC, Samsung, or SK Hynix are often global companies with monopolistic characteristics, and they significantly reduce the performance gap with the American market, often with more favorable profit multiples.”

Berger estimates that “at the moment the sentiment about the American technology giants is more suspicious. In the current report season and in the previous one we see that they publish reports and the market chooses to look at the trickier aspects of the report. For example, in Google’s report we saw that the focus was less on the cloud activity, which grew far above expectations, and more on the capital expenditures (capex) and Google’s negative cash flow, for the first time since the IPO in 2004, which which caused the stock to drop that day.”