If you really want to invest globally, you should consider alternatives to the MSCI World. (Photo: freepik)
For over 50 years, MSCI World has been the benchmark for global investing. But is it really as international as its name suggests? A closer look at the history, composition and weaknesses of the index shows that there are good reasons to think about alternatives.
An index as a mirror of the economic world
When the MSCI World was launched in 1969, the idea was visionary. An index that reflects the most important companies in developed industrial countries and serves as a guide for investors – that promised a completely new level of transparency and comparability at the time. The focus was on the economically strongest regions of the world. These were mainly Europe, North America and Japan.
However, in the 1980s the weighting of the index shifted dramatically. The Japanese stock market boomed and with it Japan’s share of the MSCI World rose to over 40 percent. Many investors were excited by this dominance, but with the bursting of the Japanese real estate and stock bubble in the early 1990s, the risk of such concentration became painfully clear. Today the US market dominates with a share of over 70 percent. The question arises: Is the MSCI World really as global as it claims to be?
How the MSCI World works
The World Index of MSCI is weighted by market capitalization. This means that companies with a high market value are more represented in the index. A company like Apple with a market capitalization of over $2 trillion has a huge share, while smaller companies are hardly taken into account. This weighting method is efficient and comprehensible, but has significant weaknesses.
A striking example is the dominance of the USA. US companies account for more than 70 percent of the index, while Europe and Asia are significantly underrepresented. The industry distribution also shows a worrying imbalance. Technology stocks such as Apple, Microsoft and Amazon dominate, while other sectors such as energy or basic materials only play a subordinate role.
This composition makes the MSCI World vulnerable to setbacks in individual sectors or regions. For example, if the technology sector in the US were to come under pressure, the entire index would suffer greatly – a risk that investors often underestimate.
An impressive but deceptive performance
The historical development of the MSCI World is impressive at first glance. Since its inception, the index has achieved an average return of 7 to 8 percent per year. The large US technology stocks have driven performance, particularly in the past 10 years. But success is by no means evenly distributed.
While investors benefited from the strength of the US economy and the innovative strength of the tech industry, other markets and industries fell by the wayside. European companies have lost massive amounts of weight in recent decades, and emerging markets such as China or India are not represented in the MSCI World at all.
The weaknesses of the MSCI World
The MSCI World, which investors can add to their portfolio with the iShares Core MSCI World ETF (ISIN: IE00B4L5Y983), for example, undoubtedly has advantages. It offers investors an easy way to invest in more than 1,500 companies from 23 countries. At first glance, the broad diversification appears to be sufficient risk protection. At second glance, however, it becomes clear that the concentration on a few countries and sectors represents a significant problem.
The US dominates the index in a way that can hardly be described as global, even though many of the US public companies generate their sales worldwide. The former heavyweight Europe now plays only a minor role, and Asia outside of Japan is almost completely left out. In addition, the weighting based on market capitalization means that investors are dependent on a few mega-corporations that set the tone in the index.
Better approaches: Alternatives to MSCI World?
If you really want to invest globally, you should consider alternatives. One way to improve geographic coverage is the MSCI All Country World Index (ACWI), which also includes emerging markets such as China, India and Brazil. With over 2,800 stocks, this index is broader and offers access to markets that could play a crucial role in the future. Even more interesting are approaches to overcoming the weaknesses of the capitalization-weighted method or other alternative approaches.
- Gerd Kommer Multifactor ETF: Alternative to the classic world ETF?
- Wisdomtree Global Efficient Core ETF: World ETF for troubled times?
- Scalable MSCI AC World Xtrackers ETF: Hybrid replication as a highlight?
- Invesco MSCI World Equal Weight ETF: more diversification, but also more momentum?
- Amundi Prime All Country World: Discount ETF with Buffett factor?
Conclusion: The MSCI World – a classic with limits
For many investors, the MSCI World is the first step into the world of investing. But if you dig deeper, you quickly realize that the index has its weaknesses. The strong focus on the USA, the dependence on a few mega-corporations and the lack of consideration of alternative weighting methods make it an incomplete solution.
Alternatives such as the MSCI ACWI, multifactor ETFs or equal weight approaches offer broader diversification and the opportunity to benefit from science-based strategies. In an increasingly rapidly changing world, investors should remain flexible – and the MSCI World is at best a starting point, not the destination.
Disclaimer:
Not investment advice. No call to buy or sell securities.