Home country bias refers to investors’ tendency to favour companies from their own country over those from other countries or regions. The tendency to invest in our own backyard is not unusual or surprising; it is a worldwide phenomenon, and certainly not unique to U.S. investors.
Strategic Asset Allocation takes a long-term view of the appropriate proportions allocated to Cash, Fixed Income and Equities taking into consideration the risk tolerance and time horizon specific to the investor profile.
Tactical Asset Allocation involves shifting the allocation of certain asset classes within a defined range, to take advantage of shorter-term trends in the markets.
Canadian Portfolios & Home Country Bias
Canadian retail investors are infamous for succumbing to home-country bias. While there have been legitimate reasons for this in the past (the foreign property rule for example), today it appears that this bias is rooted in our primordial preference for the familiar. Take a common measure of home bias–the proportion of domestically-issued equities held by the country’s citizens above that country’s weight in the global index. This shows that Canadian investors allocate half of their total equity investments to domestic equities, while Canada makes up only 3% of the global index.
In other words, in proportion to Canada’s representation in the global index, the average Canadian is 47% overweight in their home market. Out of all developed countries, only Australian retail investors are more biased, with 60% of their exposure in domestic equities relative to their 2% weight in the benchmark. Ironically, Canadian and Australian retail investors can least afford to favour their domestic equity markets as a main source of investment returns. These equity indices are some of the least diversified in the world and not necessarily reflective of the country’s real economies.
Conclusion
Canadian residents are taxed on their worldwide income, which includes capital gains, dividends and interest on foreign investments. There may be a foreign withholding tax on the foreign income paid to you. Canada has tax treaties with over 90 foreign countries, which often results in a more favourable withholding tax rate. For example, Canada and the U.S. have a tax treaty where Canadian residents have U.S. withholding tax reduced to 15% for dividends (with exemptions for certain preferred shares), 10% for interest (with exemptions for most bonds and bank deposits), and no withholding on most U.S. capital gains. This is down from the default 30% for all three types of income. A taxpayer is then allowed to claim a foreign tax credit in Canada for up to 15% of foreign tax paid, to avoid double taxation of the income, and a tax deduction may be claimed for excess foreign tax paid.
To completely shield U.S. dividend and interest income from withholding tax, investors are best off holding them in a registered retirement savings plan (RRSP) or a registered retirement income fund (RRIF). Of note, dividend and interest income from U.S. investments held within tax-free savings accounts (TFSAs) and registered education savings plans (RESPs) are not exempt from withholding tax. Although Canadians invested in U.S. dividend-paying stocks shouldn’t be exposed to double taxation, they will not receive the same preferential treatment on U.S. dividends as they would for their Canadian dividends. The preferential treatment for Canadian dividends comes in the form of a dividend tax credit, which reduces the marginal tax rate on Canadian dividends compared to interest income and, in some cases, capital gains. The extent of this benefit will vary based on the investor’s tax bracket and declines in the higher brackets. Foreign dividends do not qualify for this treatment. The reason for this difference in tax treatment is that Canadian dividends have already been subject to Canadian tax inside the corporation before they were paid out as a dividends. The preferential tax treatment recognizes this.
