Foreign stocks and funds can boost your portfolio, or not

— -- Q: People keep telling me I need to invest in companies based outside the USA. Is that true?

A: Given the near-death experience of the U.S. economy between 2007 and 2009, it's understandable some investors may be wondering if there are greener pastures somewhere else.

What you're asking about is generally known as international diversification. The idea is that a well-balanced portfolio should contain at least some exposure to foreign companies. That way, if there are troubles with the U.S. economy, in theory, companies outside the U.S. shouldn't be affected as much.

That's the theory. In 2008, that didn't work out so well. In fact, last year, many foreign companies actually did worse than U.S.-based ones.

Investors need to remember that while international diversification can offer protection from market volatility, it doesn't eliminate it. Also, don't assume international stocks have to rise 10% if U.S. stocks fall 10%. Markets and companies are much too interconnected for that.

With that said, international stocks can play an important part of diversified portfolios. You might consider buying an exchange-traded fund (ETF) or mutual fund that invests in companies in developed nations outside the U.S. And if you're looking to boost your portfolio's potential returns, and you can handle the much higher risk, you might consider adding a piece of riskier emerging markets.

Investors with international diversification have been pleased this year. During the market's recovery in 2009, foreign stocks have been some of the biggest winners. The EEM ETF mentioned above, for instance, is up 43%, blowing away the 11% gain by the S&P 500.