We have an interesting cover article for you this month. It explains several of the reasons that foreign markets must continue to be on the radar of every investor. In short, it's all about global demographics. As we say in the article's introduction:

As early as 2009, SMI began explaining that an eventual increase in our foreign-stock allocations was inevitable. This view was based on unfolding long-term demographic and growth trends. For much of the five years since, however, foreign stocks have weighed down the returns of SMI's model portfolios.

In 2010, acting on our expectations for investment opportunities abroad to surpass those in the States, we allocated 28% of the stock allocation to foreign funds. That's the highest we have ever recommended. Our foreign holdings that year had a modestly negative impact on our overall results, returning 17.2% versus the 18.0% average from our U.S. stock funds.

The next year we cut back slightly to a 24% allocation. As we explained in the January 2011 issue:

In the past two years, we've explained why we expect to be raising our foreign allocation over time. The increasing globalization of the financial markets, rapidly expanding middle classes of countries around the world, and growing size of the international economy relative to the U.S. all point in that direction.… We still believe in that long-term theme and expect it will carry our international allocations higher again in future years. However, we think there is a good chance that the U.S. economy will finally start to show some life and signs of organic growth in 2011… Stronger domestic growth and emerging economies tapping their monetary policy brakes to keep inflationary forces at bay, is leading us to reduce our international allocation slightly.

2011 turned out to be a very important year in terms of Upgrading's relative performance. While our U.S. funds recorded a modest 2.2% loss, the 24% allocation to the foreign funds in our portfolio dropped a disappointing -15.2%. As a result. Upgrading finished the year with an overall loss of -5.4% versus a small gain of 1.0% for the Wilshire 5000. That 6.4% relative performance gap has been haunting Upgrading's intermediate-term past performance numbers ever since, primarily due to our foreign holdings.

From 2012-2014, our foreign allocation has been set between 16% and 20%, and has continued to be a drag on performance. Over the past three years, our Upgrading performance would have been about 1.5% better per year if we had no foreign allocation. (Of course, there have been years, such as 2004-2007, when our foreign funds provided a bit of a boost to returns.)

Consequently, some may be wondering if continuing to include foreign stock funds is a wise portfolio allocation move going forward. This question makes this month's cover topic a timely one. It does a good job of laying out the case for a strong foreign allocation over the coming years. We hope you'll give it a close read.

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