To the uninitiated, investing in foreign bonds might sound a bit like opening a secret Swiss bank account, or doing something that ever so slightly resembles the international intrigue of a spy movie.
But before any of us get caught up in visions of Bond — James Bond — let’s take a step back and consider this everyday (if more mundane) fact of life: Putting money in the sovereign debt of an overseas nation in many ways resembles investing in a U.S. Treasury note.
The most crucial difference between a foreign bond buyer and a shareholder is this: When you buy stock, you essentially purchase a financial stake of a company — you own a piece of it. But with a bond, you loan money and collect interest, just as a bank would, to whichever nation issues it.
There’s at least one other thing about foreign bonds that isn’t so foreign: how to weigh their place in your portfolio. Experts say bond buyers should have a firm grasp of their own goals and risk tolerance, while taking into account age and income needs.
“While international issuances will tend to generate higher interest payments, it’s important to consider the risk inputs that create a demand for higher yield,” says Mike Olivia, a certified financial planner and financial representative at WestPac Wealth Partners and Guardian.
“Interest rate risk, inflation risk, currency risk, government stability risk and default risk are all factors to consider when investing in foreign bonds,” Olivia adds. “Countries such as the U.K. may offer safer investments with lower yields, while Brazil may offer riskier investments with higher yields.”
Then again — and here’s the tricky part — current events and political uncertainties on the horizon can and do effect the economic conditions of the host country. So what happens to U.K. bonds once Brexit takes full effect at the start of 2021? Or, on the opposite end of the spectrum, Brazil’s current corruption and poverty woes take an unexpected turn for the better?
In fact, Brazil makes the preferred list of at least one expert.
“Emerging market government bonds are the best bargains today, including Brazil, Russia, South Africa, India, and China, partly since they are so unpopular,” says Steven Jon Kaplan, CEO at True Contrarian Investments. “Investors will often purchase foreign government bonds when U.S. stock markets are declining, and the 9½-year U.S. equity bull market cannot continue indefinitely.”
As for the Land of the Bull Market, Kaplan has a point, even as much as investors would love to see another decade just last the last one. Yet betting on emerging markets that aren’t quite mature requires steely nerves and some gambler’s pluck. It comes down to investing what you can afford to lose, but also hanging in there for the long haul until the full political and economic story plays out.
And while it may pay for investors to take a calculated risk on established companies in the midst of turbulence — what Warren Buffett calls investing when a business is “on the operating table” — the same shouldn’t apply to foreign governments locked in a political or financial crisis.
In terms of situations somewhat less dicey, Russell Investments’ latest Global Market Outlook report, released just two weeks ago, sheds some light on the evolving situation in Japan. There the economy is just awakening from a lumbering funk.
“In Japan, the economy is starting to show signs of better positive momentum as we move into the fourth quarter of 2018,” says Russell’s Graham Harman, senior investment strategist.
With fresh business confidence and rising household income sparked investment and consumption growth, things are looking up for foreign investors — albeit gradually. And anything gradual adds up to caution wisely placed.
“The Bank of Japan has taken a very small step away from extreme ease of settings in monetary policy,” Harman says. “We expect to see further gradual moves over the year ahead, as inflation slowly edges higher. For this reason, we’re cautious on Japanese government bonds.”
What’s more, what happens in one nation can sometimes knock another off balance, a fact illustrated by the recent trade tensions between the U.S. and China. On the one hand, neither nation is going away as an economic powerhouse. Yet when international leaders start to bicker, the dominoes will sometimes fall where they will.
“The next few months look particularly uncertain, with a lot riding on the decisions of Federal Reserve chair Jay Powell, Donald Trump and China’s President Xi Jinping,” says Russell’s Andrew Pease, global head of investment strategy. “For the near term, we like the defensive qualities of U.S. government bonds and the Japanese yen.”
[See: 9 ETFs to Tap Emerging Markets.]
And so with the safety of U.S. Treasurys emerges a not-so-secret truism even a globetrotting secret agent can love: When investing in a nation’s debt, sometimes there’s no place like home.
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