Macro: Sandcastle economics
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What is home bias?
Investing 3 minutes to read
Saxo Group
The perils of being a stay-at-home investor
Home bias is the tendency of investors to invest more heavily in domestic equities while ignoring the potential of foreign equities in a well-balanced portfolio.
As well as the phenomenon that investors naturally feel more comfortable investing in companies that they’re familiar with, the refusal to stray outside their own comfort zone is historically rooted in pre-digital times when hurdles such as language differences, legal restrictions and high cross-border transaction costs made the process very challenging.
What makes this a problem?
Although regulatory alignment and clever digital solutions mean that investors no longer face these latter difficulties, home bias persists to an extraordinary degree.
Research by Charles Schwab in 2018 revealed that three out of four UK investors were interested in placing most of their assets in their home market, compared to those who were looking to invest significantly into the US (7%), Japan (5%) and China (2%). The low level of interest in foreign equities is even more astonishing given that most of the survey respondents expected overseas equity markets to advance by almost as much as stocks in the UK.
Now, consider the rates of return on major indices worldwide and the problem becomes clear. In 2020 the S&P 500 advanced 16%, the tech-heavy Nasdaq surged over 47% and in China, the CSI 300 rose around 27%. In the same period, the FTSE 100 in the UK dropped 14% whilst the STI fell close to 12%, trailing the others by quite a distance.
What to do?
Happily, this is a problem that investors can address in one word – diversification. So, if your investment strategy is based on a single sector, say, pharmaceuticals, read up on similar companies in other countries and the industry’s prospects more broadly. With a little practice, assets that once seemed too exotic to touch will become as familiar as those on your local stock exchange.
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