How advisors can get Canadians past their ‘home bias’

Canada’s stocks account for barely more than 3 per cent of the global total, but it’s estimated they make up about 60 per cent of the average Canadian’s equities portfolio. In turn, that “home bias” is causing underperformance and increased volatility – and those negative effects could become even more acute in the years ahead. The good news for financial advisors is there are several ways to help their clients increase their global investments.

A big reason for this preference is that “many investors are just more familiar with Canadian names,” says Allan Small, senior investment advisor with the Allan Small Financial Group at HollisWealth, a division of Industrial Alliance Securities Inc., in Toronto. The weak Canadian dollar can also make investors think twice about buying stocks in other currencies, especially in the U.S., he says.

Furthermore, politics can also play a part on where investors decide to put their money, Mr. Small says. Specifically, if investors are not happy with a country or confident in its leader, that may prevent them from investing in the stocks of companies from that country.

This home bias even extends to a regional bias among Canadians. Robert Duncan, senior vice-president, institutional strategy, and portfolio manager at Forstrong Global Asset Management Inc. in Toronto, says he has seen evidence of investors holding more energy stocks in Western Canada, agriculture and mining stocks in the Prairies, and financials and industrials in Central Canada.

“The cyclical nature of these sectors doesn’t create a well-diversified portfolio to help smooth out returns,” he says.

Mr. Duncan says that a home bias is not just a Canadian phenomenon. He points to a study by the Vanguard Group that shows local investors in most other countries also are affected by this phenomenon.

“People like investing in things they know and understand, with the belief this comfort will deliver the returns needed, at a level of risk that’s tolerable,” he says. “Unfortunately, this couldn’t be further from the truth.”

Risk and volatility are the big problems with portfolios weighted too heavily to an investor’s home country. For Canadians who invest too much domestically, they limit their opportunities and face a greater concentration of risk in their portfolios.

Mary Mathers, senior investment director at Mackenzie Investments in Toronto, says her firm has found that the volatility investors experience by investing too highly in Canada is far greater than if they had invested in broad global markets.

That’s because there isn’t enough diversification in the Canadian market to make a heavily domestic portfolio a good approach, Ms. Mathers says, adding that there are only a few marquee companies domestically to invest in from financial, technology and industrial sectors.

“There simply aren’t many world-class companies and dominant players – like a Nike, Nestle or BMW – [in Canada],” she says.

The limitations of Canada’s stock market will become even more of an issue in the next decade. Mr. Duncan says there are serious challenges for Canada’s dominant sectors. Namely, high household debt will make it challenging for banks and other financial services firms to continue growing revenue through lending. The move toward renewable energy and the lack of a cohesive strategy to build a pipeline coast-to-coast will hold back Canada’s energy sector. And lack of robust technology or health-care sectors will become an increasing concern.

As a result, Canadians will be more inclined to look outside their borders when exploring investment opportunities, Mr. Small says. “To gain exposure to many different sectors and many different stocks within those sectors, Canadians will have no choice but to boost their foreign investments.”

Advisors have a big part to play in helping clients move past their home bias and increase their exposure foreign holdings. Mr. Small shows investors how tiny Canada’s portion of the global stock market is. He then illustrates our lack of global leaders by asking clients to name more than five Canadian retailers. “They usually get to three and stop,” he says.

Mr. Small then explains that the weaker value of Canada’s currency should not be a deterrent, because even though Canadians lose on the value of the loonie when they buy foreign investments, they gain when they sell those investments and the proceeds are converted back to Canadian dollars.

Once clients get past any fears they may have about increased investing in foreign equities, the next step is to determine the best way to invest in those markets. If the client has adequate funds to deploy, a selection of stocks diversified by region and sector can be chosen – with an emphasis on sectors such as technology and health care, which are not well represented in Canada.

Alternatively, there are investment products that offer easy ways to invest in foreign equities. Ms. Mather says Mackenzie Investments has investment funds that hold equities and fixed-income securities from specific regions or global balanced funds. She notes that some mandates also invest in global non-traditional asset classes for further diversification.

Forstrong Global Asset Management offers global portfolios that provide returns with low risk, low drawdown and low correlation to the Canadian market, Mr. Duncan says. The firm creates these portfolios by using exchange-traded funds to implement an active approach by picking countries, sectors and themes that align with the firm’s economic and trend outlook.

But while ensuring investors have increased global diversification in their portfolios is important, there’s little harm in Canadians showing some patriotism in their investments.

“Don’t get me wrong. I still invest in Canada and exhibit a home-country bias like all of us,” says Mr. Duncan. “But my 10 per cent weighting is substantially less than the average portfolio of about 60 per cent.”