Last editedJun 20213 min read
Even if your company isn’t floated on the stock market, understanding the language of traders can give you helpful insight as your business starts to grow. It’s also useful to understand how traders track and benchmark their portfolios on the market, particularly if you’re looking to build a collection of assets yourself.
MSCI EAFE is a stock market index made up of two acronyms. MSCI is for Morgan Stanley Capital International, a reputable financial organization that provides stock market indexes and tools. EAFE stands for Europe, Australasia (the region made up of Australia and New Zealand), and the Far East.
Find out more about this index and how you can use it, starting with what exactly MSCI EAFE is.
What is the MSCI EAFE index?
Created by Morgan Stanley in 1986, this index enables investors to track equities in the markets of Europe, Australasia and the Far East. In July 2020, this included the equities in 21 countries. The oldest international stock index, it’s used as a performance benchmark for major international markets outside of the US and Canada. The stocks that are included in this index cover about 85% of the free-float adjusted market capitalization from each of the countries it represents.
How does MSCI EAFE work?
As mentioned above, MSCI EAFE is an index driven by market capitalization. This means that each of the countries or companies included in the index are weighted according to the size of their stock market. In short, countries and companies with larger stock markets or market shares account for a greater proportion of the index’s value.
Investors or asset managers can use MSCI EAFE to mark the performance of their funds and judge if value is being added to them or not. Alternatively, investors can diversify their portfolio outside of the UK and Canada by buying stocks linked to the index, such as growth funds or exchange-traded funds (ETFs). Some of the most popular MSCI EAFE index funds include the iShares MSCI EAFE ETF (EFA) and iShares Core MSCI EAFE ETF (IEFA).
What countries are included in the MSCI EAFE index?
As of April 2021, this index included the below countries:
Although there are 21 countries that impact on the overall value of MSCI EAFE, different weights are allocated to different countries depending on the size of their individual stock markets. In the most recent data, this meant that Japan accounted for the largest weighting at 23.8%, with the United Kingdom (14.48%) and France (11.49%) making up the three biggest proportions of the index.
What are the benefits of MSCI EAFE?
If you’re just getting into the stock market, then you may be weighing up the pros and cons of investing in certain stocks or benchmarking your assets against certain indexes. Here are a few of the benefits of using MSCI EAFE:
As the stocks within this index managed passively (very little input is required from a fund manager to run the holdings) any funds or ETFs linked to EAFE generally have lower fees.
Compared to other indexes, the EAFE is made up of established international markets and therefore has a lower level of overall volatility.
Investing in mutual funds or ETFs linked to this index enables investors to gain more diversification in their portfolio, with exposure in 21 different countries.
All of these benefits mean that if you’re an investor that’s just starting out, or looking to benchmark your assets within the market, then choosing MSCI EAFE linked assets or marking your portfolio’s performance against this index is a great place to start.
What are the disadvantages of MSCI EAFE?
Although this index and the funds linked to it are more stable than others, there are some downsides to investing or using EAFE for some businesses and individuals:
Some large economies, such as China, Russia and Brazil are excluded from this index.
Market capitalization is a common way to weigh indexes. However it does mean that because of the weighting on particular countries, any investments are concentrated on just a few countries.
Less volatility also means it’s less likely this index and the associated funds will experience any rapid growth in comparison to indexes based on emerging markets or developing countries.
If you’re happy to take more risks with your investments or want to make your funds more focused, then choosing a different index might be more appropriate.
Using MSCI EAFE to your advantage
If you think that the characteristics of MSCI EAFE suit your business and investment portfolio, then investing in MSCI EAFE index funds such as iShares MSCI EAFE ETF (EFA) and iShares Core MSCI EAFE ETF (IEFA) could work to your advantage. Marking any of your investments in relevant markets against this index can also help you to understand whether any value is being added.
However, to ensure you’re making an investment or reading asset performance accurately, it’s always worth getting advice from a stock market expert, such as an asset manager, to get the best return for your funds.
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