Debate surrounding the MSCI World Index: Is it still an ideal investment?
Many investors are putting their money into global index funds in the firm belief that it is a way of achieving broad diversification. However, this is a fallacy in the case of the MSCI World Index since it is dominated by just of handful of US stocks. The idea of diversification in the index has been lost − if it ever existed at all. However, the index is not a bad investment since its heavyweights have stellar earnings power.
Decades ago, financial experts developed an entirely new concept for investing in shares: the idea was that investors should keep away from individual stocks, especially if they came from their own home country, and instead, they should invest in a "world portfolio". This way, investors would be able to benefit from growth in the global economy. At the same time, they would be sufficiently protected from unpleasant surprises and crises in individual countries and sectors. Does this diversification idea still hold true today?
Investors who are currently investing in the MSCI World Index are buying up to 65% in US stocks. This is the highest weighting of US stocks of the last 40 years. In contrast, stocks from China and India − the second and sixth largest economies in the world − are entirely absent from the index.
Investors currently worrying about the concentration risk in the MSCI World Index are less worried about the US being heavily weighted in the index than about the large weighting of US technology and internet companies with stocks such as Apple, Microsoft, Amazon, Alphabet and Facebook dominating the index. Nvidia and Tesla are further heavyweights in the US technology sector. These seven stocks jointly make up 18% of the index.
The key question for investors is now whether a bubble has formed once again in the MSCI World as was the case in earlier phases − such as in Japan, for example.
Our view is as follows: Although the shares in the index have a high valuation, there is no question of any bubble forming.
Even though US stocks are overweighted in the MSCI World Index and investors therefore fail to achieve the desired diversification, this is no justification for concluding that a crash is imminent. On the contrary: The valuation of the index would become cheaper in the next few years on the back of the high earnings growth of many companies if share prices do not rise any further. This is good news for investors since it would increase the likelihood that the MSCI World Index will remain a good investment in future.
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