What is FNDC? (Pros, Cons, and Strategies)

Investing in international markets can provide diversification benefits and potentially higher returns. One such investment vehicle is the Schwab Fundamental International Small Company Index ETF, commonly known as FNDC. This ETF is an excellent choice for those looking to include international small-cap stocks in their portfolios. Today, we'll delve into what FNDC is, its advantages and disadvantages, and the strategies you can use to maximize its potential.

What is FNDC?

FNDC stands for Schwab Fundamental International Small Company Index ETF. This fund aims to provide exposure to small-cap companies internationally, focusing on those that exhibit strong fundamental characteristics.

Unlike traditional market-cap-weighted indices, FNDC follows the Russell RAFI™ Developed ex US Small Company Index. This index uses fundamental measures such as adjusted sales, cash flow, dividends + buybacks, and book value to select and weight stocks.

Key Features of FNDC

• Focuses on small-cap companies outside the United States
• Utilizes fundamental metrics to select and weight stocks
• Diversified across various sectors and countries

The index rebalances annually, ensuring that the portfolio remains aligned with its fundamental criteria and avoids over-concentration in any single stock.

FNDC Composition

FNDC encompasses a broad range of international small-cap companies, excluding U.S.-based firms. This diversification spans various industries such as industrials, consumer discretionary, financials, and healthcare, offering a balanced exposure to economic cycles and different market environments.

Pros of FNDC

Diversification

Investing in FNDC offers extensive geographical and sector diversification. The ETF includes companies from developed countries outside the U.S., providing exposure to different economic systems and lesser correlation with the U.S. market, which can reduce overall portfolio risk.

Fundamental Weighting

FNDC's fundamental weighting system ensures that investments are based on the financial strength of companies rather than their market cap. This methodology can help identify undervalued stocks with strong financial performance and growth potential.

Growth Potential

Small-cap stocks are generally considered to have higher growth potential compared to large-cap stocks. Investing in international small-cap companies through FNDC can provide access to emerging opportunities and innovative companies in growing markets.

Reasonable Expense Ratio

FNDC boasts a competitive expense ratio of 0.39%, making it cost-effective for long-term investors who seek to minimize investment costs while gaining international exposure.

Cons of FNDC

Higher Volatility

Small-cap stocks, whether domestic or international, tend to be more volatile than large-cap stocks. This higher volatility can lead to significant price swings, making FNDC a riskier investment than large-cap-focused ETFs.

Currency Risk

Investing in international stocks entails currency risk. Fluctuations in exchange rates can impact the returns of the ETF, adding another layer of complexity and risk for investors.

Less Liquidity

International small-cap stocks can be less liquid compared to their large-cap counterparts. Lower liquidity can lead to larger bid-ask spreads and potentially higher trading costs.

FNDC Investment Strategies

FNDC can be a valuable component of a well-diversified portfolio. Here are some strategies to consider:

Long-term Growth Strategy

Given the higher growth potential associated with small-cap stocks, FNDC is suitable for a long-term investment horizon. Investors should consider holding FNDC for at least 5-10 years to ride out market volatility and capitalize on the growth opportunities of small-cap companies.

Diversification Strategy

FNDC can serve as a diversification tool within a broader portfolio. By incorporating this ETF, investors can reduce their reliance on U.S. markets and large-cap stocks, potentially smoothing out returns and reducing overall portfolio risk.

Rebalancing Strategy

Regularly rebalancing your portfolio to maintain your desired asset allocation can be particularly beneficial when investing in volatile assets like small-cap stocks. Rebalancing can help capture gains from rising assets and reinvest in underperforming sectors poised for a rebound.

Hedging Currency Risk

To manage currency risk, investors might consider pairing FNDC with currency-hedged ETFs or using forward contracts to hedge exposure to foreign currencies. This approach can stabilize returns and reduce the impact of adverse currency movements.

Conclusion

FNDC offers a compelling investment opportunity for those looking to diversify their portfolios with international small-cap stocks. Its fundamental weighting methodology and broad sector and country diversification make it a unique addition to any investment strategy. However, potential investors should be mindful of the increased volatility and currency risks associated with international small-cap stocks. By employing thoughtful strategies such as long-term holding, diversification, regular rebalancing, and hedging currency risk, you can optimize the benefits of investing in FNDC.