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Every week, Kyle Caldwell and guests take a look at how the biggest stories and emerging trends could affect your investments, with practical tips and ideas to help you navigate your way through. Join the conversation, tell us what you want us to talk about or send us a question to OTM@ii.co.uk. Visit www.ii.co.uk for more investment insight and ideas.
Hello, and welcome back to On The Money, the weekly show that covers investments and pension topics in a practical manner. This week's topic is The US and whether rethinking exposure to that market has paid off. It's a market that's dominated by a small number of companies, the so called magnificent seven, which collectively accounts for around a phase of the S and P 500 index. That concentration risk has seen some investors try to tap the world's biggest market in a different way. Joining me back on the show is Dave, who has crunched some numbers looking at how different types of strategies have worked in recent times.
Kyle Caldwell:Dave, welcome back. Could you firstly give a quick overview of what you looked into?
Dave Baxter:Yeah. So as you said, there there are kind of question marks over the conventional way of accessing The US and you could also say of, you know, accessing global markets because they can be very US heavy. So what we've done is we have looked at five different ways that you can approach The US slash the global markets, and we have crunched really quite a lot of data looking at how those approaches have fared versus the S and P, versus the MSCI World Index and so on. It's just a snapshot, you know, we've looked over one, three and five years to kind of mid October, roughly the time of recording, we're basically going to talk through those approaches and how the different strategies have fared. We're going to try and avoid getting too bogged down in numbers just for the sake of I suppose digestibility, but we are going to put a lot of kind of tables up for people watching the video so that they can kind of digest those numbers themselves.
Kyle Caldwell:So the first strategy you looked at is the equal weighted approach. So funds that follow this approach, they hold a company in equal proportion. So if it's an equal weighted index fund or ETF following the 4100, that would theoretically own 1% of each company. And for the S and P 500, each company would be worth 0.2%.
Dave Baxter:Yep.
Kyle Caldwell:Could you talk through both the benefits and the potential flaws of this strategy?
Dave Baxter:So the benefits of, as you've mentioned, the so called Meg seven shares make up an enormous chunk of the S and P nowadays. So you are taking a lot of risk on, you know, how things pan out for those that have a lot of companies. By taking the equal weight approach, you are still getting exposure to the kind of biggest market, biggest economy in the world and so on, but you are erasing that kind of single stock risk. The main disadvantage is that you are missing out on the gains from those individual stocks, and the reason they are so big in those markets is because they have outperformed the competition for such a long time.
Kyle Caldwell:So with the much more common market capitalization approach, that lets your winners keep on winning. And with an equal basis, they trim back every winner, typically on a quarterly basis. Yeah. Now for me, you know, I think, you know, these days, there's an ETF for everything. You can can get you can gain exposure to, you know, various themes, sectors, stock markets.
Kyle Caldwell:And I do think sometimes, you know, not every index needs to be turned into an index fund or an ETF. Mhmm. My understanding is that, you know, back in the day, a traditional index fund or ECF, they will compare their performance against an equal weight index.
Dave Baxter:Right.
Kyle Caldwell:And then we've had, you know, some products come to market to adopt the equal weight approach. You can now gain exposure to them. For me, given that there's, you know, there's various academic studies that have shown, know, over the long term, it's a very small number of stocks that drive the performance of a particular market. So for me, given that's the case, I would, you know, I'd like to see my winners continue to win rather than cut back. But that's just my opinion.
Kyle Caldwell:I can see merits in the approach, particularly at times like basic. It is a way of reducing concentration risk, but I think if you're investing for the long term, ten years plus, I just I just think that the more traditional approach, I'd be more in favor of that potentially winning out.
Dave Baxter:I guess you can also argue that, you know, these these classic market cap trackers are kinds of momentum funds. They are backing the winners. So, like, as you say, if you just use it for the the long term, then it's just gonna change composition over that period to, you know, account for who is winning then. But you will always kind of be backing the current winners.
Kyle Caldwell:Yeah. Because because with an equal weighted ECF, you're betting against profitability and size.
Dave Baxter:Mhmm.
Kyle Caldwell:I think so so you need to consider that. And also, given that they rebalance on a quarterly basis, you're not getting pure equal weight exposure the whole time because, you know, it it takes, you know, and it makes sense that they rebalance quarterly because they wanna keep trading costs down as much as possible. They can't do it probably more frequently than that because if they do, then the trading costs will go up.
Dave Baxter:Yeah. I I guess to play devil's advocate slightly, one idea is that the equal weight fund will hold up better if those kind of big stocks do sell off, so you'll kind of dodge a bullet to an extent. We did see that in 2022, so growth stocks sold off a lot. I think the S and P lost something like, yeah, 9% in sterling terms, so pretty painful. If you took the equal weight version of that same index, that still made a loss but it was only a 1% loss.
Dave Baxter:So if you had another kind of larger version of this big sell off for those leading big companies, then perhaps the equal weights approach would help you out.
Kyle Caldwell:Yeah. I mean, for me, it's it's more of a tactical decision to have an equal weighted approach. As mentioned, I do think over the long term, the likelihood is that the more traditional market cap weighted approach would tend to outperform if we're in an environment when over that period, markets mainly rise.
Dave Baxter:And there is also one idea of, like, holding those two kind of funds alongside each other, so maybe someone could use it as a kind of moderating their exposure too.
Kyle Caldwell:And for those that are interested in equal weighted approach, we do have a couple of the funds on the Interactive Investor platform. There's the Invesco S and P five hundred equal weight ETF, X Tracker's s and p five hundred's EW ETF, and the UBS s and p five hundred equal weight ETF. The next approach that you've looked at, Dave, is global funds that simply exclude The US. There's not too many of these products, and some of them have come to market in the past couple of years in order to try and address the concentration risk concerns that some investors do indeed have. Yeah.
Kyle Caldwell:Could you talk through how the others funds have performed so far?
Dave Baxter:Yeah. I wanted first of all, maybe this is slightly kind of cherry picking for the ex USA funds, but I wanted to look at 2025 because that was a year when, you know, you had kind of trade war talk from the US president. You saw the US dollar kind of plunge, and at least on a relative basis versus other, like, major equity regions, the S and P struggled, although really it still did well. And what was interesting was the MSCI World ex USA index that these funds track made something like 23% in sterling terms in 2025, whereas the MSCI World, which includes The USA, made 13%. So the ex USA approach really paid off.
Dave Baxter:However, things have reverted a bit since then and now if you look over say twelve months to the point we're talking, then the two are kind of roughly on the same level of performance and the conventional MSCI world is ahead over three and five years. So again, it might be the case that the conventional approach still kind of pays off in the longer term.
Kyle Caldwell:And when you look under the bonnet of funds that adopt this approach, one thing to bear in mind is that they tend to have just over 20% of their assets in Japan. Mhmm. And they also give sort of greater European exposure. I mean, on the one hand, you might think, well, well, this gives me greater exposure to these areas, and I might not actually have to have a dedicated active fund or index funds that invest in those markets. So it could be...
Kyle Caldwell:That could be the way to gain greater diversification in having exposures to both Japan and Europe. But the other side of the argument is the, I think it's a very brave and bold decision to completely bet against The US. Yeah. You know, it's home to the world's arguably most entrepreneurial and innovative companies. Yeah.
Kyle Caldwell:And, you know, it's a it's a great way to tap into technology trends, particularly AI. So do you really wanna be bold enough to to go completely against The US?
Dave Baxter:I mean, for, yeah, last decade or so, I guess we've both kind of monitored fund managers, and it's interesting because you always get this conversation about The US looking expensive, overextended, maybe due a crash, and so on. But it's just such a massive career risk for them to ever kind of ignore The US, and so such great returns have come from that region.
Kyle Caldwell:Having said that, two options we have on Interactive Investor, if you wanna strip out The US completely, is through Amundi MSCI whales ex USA ETF, and the X Trackers MSCI whales ex USA ETF. The next way to reduce concentration risk with The US market is to focus on dividend focused strategies. So this helps investors look past the big growth stocks. And in theory, if you're investing in a funds that's investing in dividend paying companies, you're gaining exposure to cheaper stocks. Yeah.
Kyle Caldwell:As as there's a tendency for dividend paying stocks to fall under the value style of investing, whereas, you know, a traditional S and P 500 index fund is much more growth focused.
Dave Baxter:Yeah.
Kyle Caldwell:So Dave, what was your analysis of these types of funds and what are your thoughts?
Dave Baxter:So I looked at kind of one very popular kind of passive option, and I've also looked at a couple of active funds. Of course, there are many active funds that have not kind of managed to perform that well versus the, I suppose, conventional kind of global or US exposure. But to start with the passive approach, a very popular ETF is and this name is a bit of a mouthful, so excuse me but Vanguard FTSE All World High Dividend, that as the name suggests does look for those kind of higher yielding stocks. And yeah, its focus means that it looks past some of the dominant areas and growth markets, so North America only accounts for something like 45% of the fund, then Europe's on about a quarter of the portfolio, the so called Pacific Region makes up, from eyeballing the charts, about 15% and then emerging markets make up 10% or more. So you're getting different regions to The US, and I think that would explain why this fund and the index it tracks has done pretty well against kind of global and US indices in recent times.
Dave Baxter:One other reason would be that it's kind of income focus also means that around a third of the portfolio is in financials, and of course in the last year or so we've seen banks in particular doing really well. So these are areas that have been quite out of favour, but with things rotating a bit with a bit less focus on The US, we're finally seeing them sort of, you know, come through. And then briefly just touching on the active sides, you know, as I mentioned we're kind of, I suppose, just looking at a couple of the rare names that have done well, but one very popular fund that's done well, a lot of people are buying it on II, is Artemis Collaborative Income, which again has benefited from things like financials, emerging markets and so on. And there's also Murray International, which has been known for a very long time for looking past The US, has a good spread of exposures across Europe, Asia and so on. With those two funds it's just interesting that they can work quite well as a diversifier against kind of conventional global and US markets.
Dave Baxter:Murray International in particular, in years like 2022, when popular stocks have kind of fallen out of bed, has done really well, but sometimes it's really struggled when kind of the S and P and so on have come roaring back to life.
Kyle Caldwell:I think in general, global ex income funds, they do tend to be so called underweight, The US. Yeah. I think one of the main reasons why that's the case is because the dividend yields for US companies, they they are typically pretty low. And you do see a global fund manager, they'll venture more to Europe or have some UK exposure. Although having said that, some global funds deliberately don't have much in The UK as a sort of selling points.
Kyle Caldwell:You know, if you've already got UK exposure, come to us. We've not got much in The UK. So as as ever, it's important to look onto the bonnet and understand the strategy. And another appeal with sort of dividend focused investing is the, if we get a downturn for stock markets, dividend paying companies, they tend to hold up better than more growth focused stocks.
Dave Baxter:Yeah. And it is just as I said as well, it's just generally a kind of diversification, isn't it? You're this isn't always the case, but you're often just getting a different kind of flavor of exposure to if you backed an S and P 500 tracker.
Kyle Caldwell:Now Dave, we know that the attractions of smaller companies over the long term, there's been academic studies that have shown, you know, over a fifty year period, smaller companies tend to produce outsized returns versus larger companies. However, most investors haven't got fifty years. So what is the outlook at the moment for smaller companies? I mean, it's been it's been a particularly tough couple of years as we've seen interest rates rise, which have been a big headwind for that part of the market.
Dave Baxter:Yeah. I think globally and, you know, also in kind of regions like The UK, you have seen a bit of life in small caps in the last year or so, and you have seen them, you know, doing more of an effort to kind of narrow the gap against those bigger companies. But more generally in recent years, small caps have just been kind of out of favor. They've lagged. Maybe that's to do with the kind of dominance of say globally the kind of Mag seven and so on.
Dave Baxter:In The UK, maybe it's because you've had certain sectors more associated with the FTSE one hundreds kind of coming back to life. So, yeah, it has been quite a trying time for the small company investor, although I guess the kind of contrarian in me, and again the diversifying within me, says, you know, that might kind of be part of his appeal, it's still something, you know, that is not captured by conventional trackers, and maybe over time it will kind of pay off, but it it is taking patience.
Kyle Caldwell:And while investors can gain exposure to US smaller companies through index funds and ETFs, although I should point out that for a US smaller company, they're not actually that small. Their market caps tend to be over 1,000,000,000. It's not like The UK, where, you know, smaller companies, know, market cap 300,000,000 below, for example. It is considered to be an area where active for management can really add value as because there's less people researching that part of the market. Is that the route you would advocate going down?
Dave Baxter:I think it it is an interesting avenue, and I do... Yeah. The rationale does seem kind of appealing. I think if you look at some of the active funds out there, they have had some, you know, relatively largely kind of underwhelming returns in recent years. But it nevertheless...
Dave Baxter:Yeah. I do see the kind of appeal of going more for kind of stock picking, that kind of thing. But again, it is just... It's an area where you kind of need to be very patient and things, you know, you need to look very closely at the funds because they're they're very different in where they focus, in their style, you know, you get some that more like kind of tech focus like Herald, you get some kind of quality focus names like Smithson, which is now an open ended fund. And there's just so much kind of difference between the the options that you can use.
Kyle Caldwell:And if you're seeking out global smaller company exposure through an actively managed funds, there's not actually that many options. And there's the global smaller companies investment trust, which is one of the dividend heroes. It pays a dividend, although the yield is very low. There's also the Aberdeen Global Small Companies Funds. And there what was the Smithson Global Small Companies Strategy, which is now an open ended fund.
Kyle Caldwell:But there really isn't like a huge amount of options, which which interests me really. Yeah. Maybe it's because, you know, you know, it's a it's a big universe, and it's it's quite hard to narrow down the the investment process to focus on a particular area.
Dave Baxter:I think one trend, an interesting trend you sometimes see in the fund space as well, is if an area has been struggling, there are more and more funds focused, they're closed, and there's less demand for them. And then by the time you get to a point where you realize you do want that in your portfolio, there aren't many options available. And then maybe if we see demand increase again, we'll get more kind of options coming in into the space. I did wanna mention one name that cropped up, but maybe it is watching for some time is Artemis, I think this year or last year applied... They converted their small cap fund of theirs to the smart garp strategy that's been doing well.
Dave Baxter:So it'd be interesting to see whether that will kind of pay off in the global small cap universe.
Kyle Caldwell:And let's conclude by looking at which actively managed funds have fared well both in The US and globally. Mhmm. I mean, both markets have been very difficult for active fund managers on a sort of five, ten year basis to beat, given how concentrated both of those stock markets have been, but you've picked out a number of funds that have fared very well?
Dave Baxter:Yeah. So I found a number of funds that have done well versus the S and P, which has performed better than the MSCI World over one, three and five years. So they've beaten the S and P over each of those periods, you know, at the time of recording. Maybe you won't go into all of them but we can show a table, but there are some interesting very different approaches on offer. So one is the...
Dave Baxter:I mentioned, you know, Artemis' smart garp strategy has been doing very well across different regions, and their global equity funds has performed really well. That, as you'll see with quite a few of these funds, is light ish on The US, it has about 44% in The US, it has nearly 30% of assets in emerging markets, which I imagine has been one of the things to help drive those superior returns, at least recently. Let's take a very different example. You've got Blue Rail Growth, a very popular fund. That is very US heavy, something like 80% in The US and, you know, trades a lot, kind of changes positions a lot and has been really doubling down on AI in, you know, recent times.
Dave Baxter:Then a dedicated US fund, there weren't many that kind of, you know, cross the thresholds that we wanted it to, but there's one called Blackrock US Dynamic. What's interesting here is it does seem to back those kind of tech majors very heavily, so has a lot of exposure to your Nvidias, your Microsofts, your Amazons and so on. So maybe that would struggle if the kind of main market did. And then, yeah, you have some slightly different names like Orbis Global Equity, which has a real mix of assets, and then some dedicated value funds. A lesser known one perhaps is M and G Global Strategic Value.
Dave Baxter:So you have an interesting kind of quite disparate group there that have managed to, you know, perform this quite difficult task.
Kyle Caldwell:As you've just demonstrated, Dave, there's there are many different ways to beat both The US and the global stock market, but it is far from easy. Yeah. So that concludes Dave's research, which hopefully provides plenty of food for thought. Dave, thanks for coming on.
Dave Baxter:Thanks for having me on.
Kyle Caldwell:And thank you for listening to this episode of On The Money. As ever, we love to hear from listeners, and the way to get in touch is by emailing us on otm@ii.co.uk. In the meantime, you can find plenty of investment inspiration on the Interactive Investor website, which is ii.co.uk. And we'll be back next Thursday. See you then.