Why More Malaysians Should Diversify Their Investments Overseas

This article first appeared in StarBiz7.

For the second time in five months, the ringgit has breached the RM4.80 mark against the dollar. This has brought our currency under scrutiny, and we’re now seeing headlines harking back to the Asian Financial Crisis. Understandably, Malaysians are concerned.  

While our country is stable, the truth is that Malaysia is still a relatively small economy. And while our leaders are doing what they can to shore up investor confidence, the ringgit will be buffeted by external factors, including interest rates, oil prices and the health of our trading partners. 

However, currency is only part of a wider issue – Malaysians should look abroad to diversify their investments. To illustrate my point, the weightage of the Malaysian equity market within theVanguard FTSE All-World ex-US ETF – a popular ETF to get global equity exposure – stands at only 0.4%.

There are benefits to avoiding home bias when investing, including better risk-adjusted returns and diversification, which we’ll explore.

Malaysians have too much of their assets invested in Malaysia

For practical reasons, most of our net worth will be based in ringgit – we earn and we spend in ringgit. But diversifying one’s investments overseas can be very beneficial. To objectively look at Malaysians’ source of savings and investments, let’s take a list of commonly held assets.

Firstly, and by default, real estate is a uniquely local onshore asset class. Collectively, Malaysian homeowners hold RM2.3 trillion worth of real estate according to EdgeProp. For most people, our primary residence makes up a significant portion of one’s net worth.

Next up, Malaysians’ cash holdings: Bank Negara statistics show that individual Malaysians hold RM800 billion in our savings accounts and fixed deposits. Unsurprisingly almost all of it is in ringgit – after all, we spend in our local currency. Only RM22 billion, or 2.7%, is held in foreign currencies on-shore, presumably by high net worth individuals with multicurrency accounts.

Next, we look at our local stock market, where retail participation makes up around 20%, or RM371 billion in equity holdings. Bursa Malaysia lists predominantly Malaysian companies; less than 10 out of the approximately 800 listed companies are incorporated overseas. And while there are regional champions and large companies deriving some revenue from overseas, the exposure gained when investors buy Malaysian equities is almost purely local.

Take the New York Stock Exchange for comparison, which boasts 530 of the world’s largest international companies from 45 countries. Investors who can access this stock exchange are able to build a truly globally diversified portfolio.

Malaysia’s fund management scene is where some overseas exposure really comes into play. Out of the RM975 billion in assets under management, RM409 billion (42%) is invested in foreign markets. Local fund managers have long been exposed to regional markets, and they’re experts when it comes to including foreign holdings in their portfolio. This can play to their advantage when certain markets heat up and result in increased investor appetite. In the past two decades, several geographic themes have come up including China, India, Vietnam, and the US.

However, while these investors have some foreign flavour in their portfolios, most of these unit trusts are hedged and currency risk neutralised. As we’ll see later, this is a disadvantage now that many currencies have strengthened against the ringgit.

The last two commonly held assets by Malaysians are their EPF savings and their investments in Amanah Saham Bumiputera (ASB). These funds are professionally managed and held by most Malaysians as part of our retirement schemes and social mandates. EPF and ASB have 37% and 19% foreign exposure respectively, which has gradually been built up to give better risk-adjusted performance for contributors.

As the risk of these funds are balanced towards investing objectives like long-term wealth accumulation and retirement, strategic asset allocations need to be diversified. Malaysians could take a page from these institutional investors to diversify overseas and target enhanced returns. The EPF, for example, reported that for the first three quarters of 2023, 37% of their portfolio was invested overseas. That foreign exposure contributed 45% of investment income.

A better risk-reward profile

Foreign markets provide better overall returns, and on a better risk-adjusted basis. US indices like the S&P 500 and Nasdaq have provided stellar returns over the past decade, posting 12.5% and 17.8% p.a. respectively – and they have superior Sharpe ratios. This ratio measures the portfolio’s efficiency in generating those returns. For every unit of risk, these two markets post higher returns compared to other regional markets.

Consider other regions as well, like Europe, Japan, and broader Asia These markets have posted equity returns of 3.3% to 5.3% p.a. over the past ten years. Compared to the local market, which has decreased overall (posting -1.6% p.a.) in the same period, these are better alternatives.

Granted, the local market may be better for stock picking. However, investing internationally and gaining global exposure doesn’t require an investor to be a stock picking expert – passive exposure is enough to get you superior returns.

Diversifying across regions and across industries

An additional benefit to diversifying globally: access to different sectors and industries, which can perform differently depending on the economic cycle. So having a mix of defensive and cyclical companies in your portfolio helps reduce your overall risk. Note as well that different markets contain different bellwethers for the global economy. Much has already been said about the Magnificent Seven, those tech stocks that drove the US markets last year, so let’s instead examine the top holdings of other markets.

European markets are known for mature companies operating in the healthcare and consumer staples industries. For instance, pharmaceutical companies like Novo Nordisk, Novartis and AstraZeneca have performed well in the past 5 years – during and after the COVID-19 pandemic. Meanwhile, consumer staples companies like Nestle and Unilever are defensive names that provide stable dividend income streams. All in all, these mature blue chip companies can provide steady growth and dividends to investors’ portfolios, and are all accessible through Europe-focused ETFs.

Asian markets, on the other hand, can act as a proxy to the fast growth of China and India. Although China is now in a slump, and its tech sector has taken a beating, the long-term prospects of China as the world’s second largest economy cannot be ignored. Other investment-worthy large names in Asia include electronic giants like Taiwan Semiconductor Manufacturing Company and Samsung Electronics which gives investors exposure to high-value manufacturing companies.And for our last stop in Asia: India’s stock market, which recently reached the $4 trillion market cap milestone, driven by its impressive economic growth and demographic dividend. Investors can build exposure to these regional markets through Asia-focused ETFs.

To build wealth, Malaysians need to diversify their currency holdings

Finally, an added booster to returns is the foreign exchange (FX) gains from other currencies strengthening against the ringgit. If Malaysians invested globally in a portfolio of regional ETFs, thereby gaining exposure to a basket of major currencies, that can provide additional returns.

Another way of gaining currency exposure is to simply hold those foreign currencies in cash, while receiving returns through multi-currency fixed deposits or low-risk foreign treasuries. Simply holding US dollars in the past ten years would have seen a 45% FX appreciation, not to mention the high yields of over 5% that have emerged from the Fed’s aggressive rate hikes in the past 18 months.