International equity allocation increases to 50%

August 9, 2011

One of the advantages United Church Funds’ investors enjoy: the service of an experienced Investment Committee. In consultation with Summit Strategies Group, an external investment consultant, the Committee works year-round to monitor the composition of UCF’s portfolios, the performance of fund managers, and to look ahead to find new opportunities for enhanced returns.

As the US economy has struggled over the last few years, the Investment Committee has closely watched the balance of equities in the Total Equity Fund and its component funds. How much of the portfolio should be invested in the stock of large versus small companies? Should we change our engagement in international markets to take advantage of better price/earnings ratios? Emerging and international markets have been gaining dominance in the global marketplace, and the degree of UCF’s participation in these markets can impact both volatility and performance. What role should emerging markets play in our international holdings?

As of March 31 of this year, 17% of all US companies made up 82% of the Russell 3000 index. Shares in domestic (US) large cap corporations remain inexpensive relative to the shares of domestic small cap due to the strong period of outperformance that small cap has enjoyed in recent quarters. So to maximize the opportunity presented by large cap stocks in the present economic environment, the Investment Committee has elected to increase the large cap allocation in domestic equities from 70% to 80%, with small cap shrinking from 30% to 20%.

A component of the Total Equity Fund, domestic equity has long comprised 75% of the Total Equity portfolio, with international shares making up the remaining 25%. However, growth and development in international markets, both developed and emerging, has shrunk the share of US equities in global equity markets to just 43.7% at March 31, 2011. In recognition of this expanded opportunity set and the current inexpensive valuation of developed international equity markets relative to the US, international stocks will be rebalanced to 50% domestic and 50% international, resulting in a more efficient portfolio.

The international portfolio itself is also undergoing a rebalancing of allocations. Since 2000, GDP growth in emerging and developing economies has outpaced GDP growth in the US and other major advanced economies (collectively referred to as the G8). While the G8 economies saw growth of approximately 2.5% in 2010, emerging and developing economies experienced GDP growth of 7.1%. Even at the lowest point in the recent recession, emerging and developing economies did not experience the negative growth weathered by the economies of the G8. Although emerging markets equities remain somewhat expensive relative to developed international equity, emerging markets offer compelling long-term growth prospects. Recognizing the opportunity presented by a long-term favoring of emerging markets, UCF is increasing its emerging markets weighting from 20% to 30% of the international equity portfolio.

The optimization of the Total Equity Fund allocations offers an opportunity to increase returns by up to 10 basis points, while also reducing risk to a similar degree. Given the current economic environment, however, the changes in UCF’s portfolios will be accomplished over time. As economies evolve and markets shift, investors must keep a keen eye on changes to ensure their portfolios remain properly balanced. At United Church Funds, we are pleased to shoulder much of that fiduciary burden on behalf of our investors.

 
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