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International funds – Invest or Not to?
The recent changes in the tax structure, along with the expected economic recovery and stock market boom, have made the international funds lose their appeal.
Under the Indian income tax rules, international equity funds are categorised as non-equity funds. Consequently, they also took a hit when finance minister removed the option of 10% tax on capital gains before indexation. Now, they will be uniformly taxed at 20% with indexation benefits. Moreover, the holding period for such funds has gone up from one year to three years for the gains to be qualified as long term in nature. While this change may not impact the long-term investors (with a 3-5 year holding period), it will affect the active investors who alter their international fund allocation based on a medium-term review.
Given the changed landscape, should the Indian investors continue to bet on international funds?
In addition to the changes in tax structure, the expected recovery in the Indian economy, reflected in the booming stock market, also makes international funds less attractive.
I prefer Indian equity over international equity now. The underperformance of international funds compared to domestic funds is another reason why they might not be the best investment option. Though some international funds had generated decent returns a year ago, it was primarily due to the sudden depreciation in the Indian rupee. With a recovering economy and stable domestic capital markets, the probability of currency depreciation is remote.
Diversification
Still, you should not avoid the international funds entirely and can opt for them for specific reasons. Geographical diversification is one of them. It makes sense to keep a small portion, say, 510% of your equity allocation, outside the country. Those investing in international funds with a view to diversify their portfolios should consider developed markets, not other emerging markets, say experts. "Developed markets have a lower correlation with the Indian equity market compared to other emerging markets
ICICI Prudential US Bluechip fund, Franklin US Opportunities fund and Motilal Oswal Nasdaq 100 ETF are some of the International schemes worth considering. The US market did well last year, but it may not be the case this year. So, don't try to extrapolate future returns.
For select investors Unless you have a decent sized portfolio of domestic equities, it is advisable not to diversify, and small retail investors can skip international funds altogether. As of now, resident individuals can remit up to $0.125 million per financial year for investments outside the country. Since investments in international funds do not fall under this RBI restriction, they offer a good opportunity to high net worth individuals (HNIs) who want to park a bigger sum abroad. It is important to make sure that your risk profile suits such an investment. International funds are suitable only for investors with aggressive or moderately aggressive risk profiles. International funds are an HNI product because in addition to the market risk, you are adding the currency and country risk also.
The options
We need international funds that are more diversified rather than country-specific funds. Currently, most international funds focus on a particular theme or country.
Among these, the funds focused on global commodities and China hold greater promise than their peers. For commodities, the worst is over. Having come close to production cost, the commodity prices have started bouncing back. Most base metal prices have gained 10-20% in the past three months. Global commodity prices are expected to move up further because global growth in 2015 will be better than 2014. A withdrawal of liquidity by the US Federal Reserve poses a threat to this commodity rally, but the easing by the EU and Japan should balance this. Since the Indian stock market will be negatively impacted if there is a flare-up in the international commodity prices, these funds will also act as a good hedge against inflation.
The Chinese market has not been doing too well in the past few years. There are also worries about a possible `crash landing' due to a very high corporate debt. However, this means that investors get a good entry point.
"We are positive on China as the valuations remain attractive, significantly below their historical average.
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