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(August-2004) Home-grown talent: Local versus global bias
Commonly, diversified portfolios contain a strong home country bias in their equity exposures. Over time, this has tended to whittle down, but not disappear. Domestic bias is in part, a function of asset/liability matching in terms of currency, but the ability of funds to hedge out excessive foreign currency exposure dilutes this premise, somewhat.
In Australia, home country bias is alive and well. A recent asset allocation survey of balanced pooled superannuation funds’ exposures, conducted by Mercer Investment Consulting, indicated that the average exposure to Australian equities is around 36.5 per cent of the total fund versus 25 per cent for international equities. Admittedly, there has been some gradual convergence. Ten years ago 40 per cent and 18 per cent respectively were the average exposures. However, the strongest case for higher international equity exposure rests on the diversification benefits offered.
The market capitalisation for the Morgan Stanley Capital International (MSCI) World Index is approximately A$25,400,000 million. Australia makes up a little over $530,000 million of the index, or around 2.1 per cent.
Sector comparison — World versus Australia (June 2004)
There are some very significant differences in the composition of the two indices as the sector weighting comparison in the table demonstrates.
Some of the more significant differences between the two indices are highlighted in the table. In Australia, there is a very heavy concentration in financials — nearly 43 per cent of the ASX 300, approaching twice that of the MSCI World Index. Financials include real estate (merely 1.4 per cent of the MSCI World Index) and listed property trusts (a somewhat larger presence in the local market at 8.3 per cent).
The second largest concentration in the ASX is in materials — 18 per cent versus 4.8 per cent in the MSCI World Index. Thus the two largest sectors in Australia account for 61 per cent of the ASX 300’s value (52 per cent if LPTs are disaggregated from financials). In the MSCI World Index, the two largest sectors amount to a much lower, 36 per cent.
Conversely, the Australian index is under-represented in newer and developing industries like information technology (0.6 per cent versus MSCI at 12.8 per cent) and health care (2.8 per cent versus 11.1 per cent).
Company concentration
There has been much discussion over time, and particularly recently, of the concentration in the ASX. The recent move by News Corporation to relocate to the US and merger activity in the property trust space, has renewed the focus on this concentration. (Incidentally, the merger of the Westfield entities and proposed merger of Lend Lease and GPT could create two entities, which together might represent up to half the LPT index.)
In the MSCI World Index, the 10 largest companies account for around 12 per cent of the total weight of the index and the top 20, nearly 20 per cent. The largest company in the index, General Electric, has a 1.7 per cent weighting. Only six companies are more than one per cent of the index. Number 20 is 0.6 per cent of the MSCI World Index.
Top stocks in the ASX 300 Index
Obviously country indices (like the ASX 300) will inevitably be more concentrated than the (sum of the parts) MSCI World Index. The classic example is Finland, where Nokia constitutes fully 60 per cent of that country’s index. However, the Australian market is more concentrated than most. The 10 largest companies in the index (including News Corp) account for approaching half the value of the whole ASX 300 index. The top 20 represent 60 per cent of the value of all the 300 companies in the index. National Australia Bank — the largest constituent — weighs in at 7 per cent, slightly ahead of BHP Billiton and News Corp. Financials dominate (nine out of the top 20) with a 30 per cent plus weighting — that is, half the capitalisation of the top 20. Naturally, a portfolio of Australian stocks, benchmarked against the ASX 300 is likely to have less diversity than a global portfolio drawing on more than 1,500 companies that are represented in the MSCI World Index.
Conclusion
Notwithstanding the greater concentration in the local index, as stated at the opening of this article, funds remain highly weighted in domestic equities. True, dividends from Australian companies carry taxation benefits by way of franking credits, but in terms of diversification benefits, the strong bias towards the home market remains anomalous.
— David Taylor is vice-president of Capital National Alliance
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