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Are Individual Investors Finally Wising Up? Looking Ahead For a Change

Carla Fried

U.S. investors are leaning heavily on their passports of late. Morgan Stanley Smith Barney reports that net 2012 inflows into international stock ETFs (developed and emerging market) totaled $46.1 billion in 2012, up from $13.6 billion in 2011. And the foreign exposure is showing no signs of letting up; in January another $15 billion made it into international stock ETFS according to Morningstar, with $6 billion of that chunk going into diversified emerging markets funds. By comparison, just $4.3 billion of net new money made it into U.S. stock ETFs in January.

What’s intriguing is that this isn’t a case of investors chasing hot performance -- something individual investors frequently get tagged for. Let’s use two Vanguard ETFs as proxies for the U.S. and foreign markets: The Vanguard Total Stock ETI (VTI) for domestic and the Vanguard FTSE All-World ex-U.S ETF (VEU) for foreign.

Here’s a stock chart of one-year performance:

VTI Chart

And the past three months:

VTI Chart

Maybe, just maybe, investors are getting ahead of the curve and boosting their exposure to less expensive markets. To be sure, the strong recent performance in U.S. markets has pushed stock valuations higher. Morningstar calculates that the forward price/earnings ratio (an estimate for the next 12 months) for the domestic Vanguard Total Stock Market etf is 14.5, while the same metric for the developed-country foreign ETF is 11.8. Vanguard’s FTSE Emerging Markets ETF (VWO) is even a tad cheaper with an average forward p/e of 11.6.

That said, three of the five largest holdings in the domestic ETF-Apple (AAPL), Exxon-Mobil (XOM) and Chevron (CVX) aren’t exactly suffering from valuation creep, based on PE ratio:

AAPL PE Ratio TTM Chart

The relative lower valuation in foreign markets -- and in many cases better economic outlooks with stronger GDP growth and less onerous public debt levels to worry about -- indeed makes a case for tilting toward foreign markets. The new iShares Core MSCI EAFE ETF (IEFA) gets you a diversified portfolio of developed-market foreign stocks for a rock-bottom 0.14% annual expense charge. HSBC Holdings (HCS), Novartis (NVS) and Toyota (TM), among the ETF’s top 5 holdings, are all off to a strong 2013 start, as seen in a stock chart.

HBC Chart

The Schwab Emerging Markets ETF (SCHE) is the cheapest way into faster developing economies, charging an annual expense ratio of just 0.14%. It tracks a broad FTSE index of emerging market stocks.

Carla Fried, a senior contributing editor at ycharts.com, has covered investing for more than 25 years. Her work appears in The New York Times, Bloomberg.com and Money Magazine. She can be reached at editor@ycharts.com.

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