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Are overseas stocks going to make a comeback?

- Alan Lavine and Gail Liberman

Do you still buy the argument that foreign stocks help reduce the risk and increase the return of your investment portfolio?

If you do, you must have the patience of a saint. In the 1980s, foreign stock funds were a great way to help you get higher returns and reduce losses when you combined them with U.S. stocks. But in the 1990s and early 2000s, we've had no such luck. Foreign stocks have declined along with ours.

Over the past five years, foreign stock funds grew at a -1.0 percent annual rate of return ending in 2002, according to Morningstar Inc., Chicago. Over 10 years, foreign stock funds grew at a measly 5.4 percent annual rate. Meanwhile the average domestic stock fund grew at an 8.5 percent annual rate.

Should this be any different today?

Financial research shows that you reduce the risk without affecting the return by mixing risky investments with less risky ones.

Research by Burton Malkiel, author of a Random Walk Down Wall Street (Norton), shows that U.S. stocks and foreign stocks have a correlation of .50. This means that about half the time U.S. stocks and foreign stocks will move in opposite directions.

Correlation measures how one investment moves in relation to another. Two investments that have a correlation of 1 move together. If you have a correlation of -1, the two investments are moving in opposite directions. So gains in one offset losses in the other. When you put the two together, you have a less volatile investment.

There are many excellent foreign stock funds available from large investment companies like Fidelity, T. Rowe Price, Vanguard, American Century and Fidelity. But Morningstar analyst Greg Wolper recommends the Preferred Groupís Preferred International Value Fund--even though the fund is down a total of -25 percent over the past three years ending in 2002. The fund outperformed international and U.S. stocks.

Wolper says the fund, which has been around since 1992, did better than many of its peers. And he likes Peter Spano, the fund's portfolio manager. The fund has good long-term returns and mild volatility, Morningstar says.

Spano buys undervalued stocks of any size and holds them about two years. He wants to own companies that have low prices based on future earnings compared with stocks that make up the international stock fund index. The companies are relatively cheap, but must show evidence of future earnings growth.

The fund has 35 percent of assets invested in the United Kingdom and Japan. The rest is in other European countries, as well as China, Singapore and Australia.


Alan Lavine and Gail Liberman are husband and wife columnist and authors of The Complete Idiot's Guide To Making Money With Mutual Funds, (Alpha Books).

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