Foreign Fund
Fund that invests in businesses outside the country of origin of the investor
What is a Foreign Fund?
A foreign fund refers to a fund that invests in businesses outside the country of origin of the investor. They can be exchange-traded funds, closed-end funds, or mutual funds. They are sometimes referred to as international funds.
Foreign funds provide private investors with access to overseas markets. Foreign investment introduces risks, but it may also help investors to diversify their investment portfolios. Foreign funds are higher-risk investments, which are typically used as a substitute for central investments of long-term portfolios.
Summary
- Foreign fund refers to a fund that invests in businesses outside the native country of the lender.
- Foreign funds help investors diversify their investment horizons, resulting in a higher return potential.
- Emerging markets provide investors substantial benefits with higher risks as the markets and infrastructure of these countries are rising but uncertain.
Foreign Fund and International Countries
Foreign funds help investors diversify their investment horizons, which results in a higher return potential. Risks and future returns can vary from one country to another. Developed market countries are perceived to provide the least risk since they include the most mature economies in the world. Foreign funds may include existing, developing, or frontier market investments in a variety of asset classes. Such funds can deliver different levels of risk and return.
Emerging markets offer investors substantial benefits with higher risks as the markets and infrastructure of the countries are rising but uncertain. In emerging markets, investors can see a range of funds covering leading sub-sectors, such as Asia (excluding Japan) and BRICs (Brazil, Russia, India, and China). Undeveloped countries will be at the greatest risk with some potential for return as technologies grow.
Currency and changing economies are some of the factors that increase risk. Currency is usually a problem when investing in any foreign fund since currency fluctuations can impact the actual returns of the portfolio of investors.
Changing markets are also a consideration that requires consistent due diligence, as changing laws and legislation will impact the economic patterns of markets in foreign countries.
Categorization of Foreign Fund
Foreign funds can be characterized in the following ways:
1. Based on the construction of the portfolio
- Schemes for direct investment in global equities – The local portfolio manager picks high-quality overseas investment firms. Before proposing it to clients, portfolio managers need to access the track record of the scheme.
- Feeder fund – They are the funds invested in a foreign mutual fund scheme. The fund invests in a foreign fund, usually of a parent company, operated by an overseas fund manager. The performance records of the overseas fund should be looked at before the scheme is recommended.
- Fund of funds – They are also the funds invested in foreign mutual fund schemes. However, the fund will invest in several foreign funds. In the case of a fund of funds, all schemes in which the fund participates must be tested to gauge its growth potential.
2. Based on the investment portfolio
- Global funds – The funds are invested across markets and industries. Most truly, these are diversified funds.
- Sectoral or thematic funds – The funds are invested in a single asset, sector, or trend, such as real estate and gold. Investors will be exposed to uncommon themes, such as mining and agriculture, by trading in these funds.
Benefits of Foreign Fund
1. Diversification of portfolio
Any investment portfolio can consist of a combination of large, medium, and low-risk portfolios. In a diverse portfolio, the risk associated with a single high-risk investment is spread and thus reduced. While a diverse portfolio cannot eliminate all the risks involved with a given fund, it will help to smooth the return of the portfolio at periods when the economy is uncertain or down.
2. Easy liquidity
Liquidity is an important element of any foreign fund. A liquid asset is a term used for securities whose shares can be traded for cash within a relatively limited amount of time. Once shares are traded in the exchange market, the investor will earn the balance equal to the value of the purchase at the time of the close of the market.
However, because the value of the foreign fund depends directly on the current market environment and results, the value that the investor may obtain upon withdrawal may be above or below the original cost of investing in foreign funds.
3. Expertise in portfolio management
Usually, investors do not have the expertise or experience needed to handle a complex portfolio of assets. Hence, portfolio managers are responsible for handling foreign funds. They will monitor the investments under the fund and make trading decisions on behalf of the clients.
Limitations of Foreign Fund
1. Increase in global risk
The portfolio of investors is susceptible to country-specific risks from all markets in which the foreign fund invests.
2. Currency risk
When investing abroad, currency risk is the biggest risk. Any change in the domestic currency relative to the currency of the underlying investment affects the efficiency of the system. The appreciating domestic currency adversely impacts the returns while the depreciating domestic currency raises the returns.
Additional Resources
CFI is the official provider of the global Capital Markets & Securities Analyst (CMSA)™ certification program, designed to help anyone become a world-class financial analyst. To keep advancing your career, the additional CFI resources below will be useful:
