This year's stock market volatility has caught some investors off guard, causing them to pull money out of international mutual funds.

Todd Rosenbluth of Standard & Poor’s Equity Research Services thinks advisors should use this opportunity to talk to investors about risk exposure and several funds that may be appealing to the risk-averse.

U.S. mutual fund investors are questioning whether the falling Euro and sovereign debt crisis in Europe are reason enough to shift their assets away from international investments. While money moved into international mutual funds in each of first four months of 2010 and the first week of May, approximately $3.7 billion flowed out of these funds in the week ended May 12, according to data from the Investment Company Institute.

S&P's Investment Policy Committee recommends that investors with moderate risk tolerance have a 45% exposure to U.S. equities and 15% exposure to foreign stocks; the remaining 40% allocation should be in fixed income and cash.

The problem is that many investors forget that their domestic mutual funds have both direct and indirect exposure to international markets, said Rosenbluth in an S&P research report released Tuesday.

“There are a lot of U.S. based companies- IBM, General Electric, Hewlett Packard, and Exxon Mobil- that all have 40% or more of sales coming from outside the U.S.,” Rosenbluth said in a interview Tuesday.  “We don’t think people should pull out of Europe. Investors should have diversification globally and exposure to Europe and Asia as well as the U.S.”

Meanwhile, he says, there are still a number of large-cap U.S. stocks that are currently undervalued based on S&P’s methodology, have above-average quality rankings, and generate 40% or more of their revenues from overseas markets. These companies include: ExxonMobil, where 70% of 2009 revenues stemmed from international operations; General Electric, where 54% of 2009 revenues stemmed from international operations; International Business Machines, with 58% international exposure, and Procter & Gamble [PG], with 57% of 2009 revenues from outside of North America.

Rosenbluth also said that three mutual funds that ranked four- or five-stars based on performance, risk, and cost factors. These funds include, AllianceBernstein Large Cap Growth Fund, a five-star ranked fund that outperformed its peers on a one- and three-year total return basis through May 21 and has 13% exposure to international stocks, with ita top-10 holdings (2.5% of assets or greater) in companies which all have more than 40% of annual revenues from overseas markets; Columbia Large Cap Core Fund, a four-star ranked fund that outperformed its peers on a three- and five-year total return basis, though it underperformed in the last year through May 21, while incurring relatively low volatility.

The fund appears to be dependent on U.S. markets with only 3% of assets internationally, Rosenbluth said, but as of March 2010the fund had top-10 stakes in Apple, General Electric, IBM, Philip Morris International, and Procter & Gamble, which all have high exposure in non-US markets; and MFS Massachusetts Investors Growth Stock Fund, a five-star ranked large-cap growth fund that outperformed on a one-and three-year total return basis through May 21, with an 11% direct exposure to international markets in March 2010, but also owned 2.5% or more of assets in the following undervalued multinationals: Cisco Systems, Google, Mastercard, Nike, and Procter & Gamble.

The most important thing is for investors to feel comfortable, Rosenbluth explained. If an investor’s portfolio has more volatility than they expected an advisor can help tweak it. If nothing has changed in the investor’s game plan than they should not make any changes in their U.S. versus non-U.S. exposure. “Our philosophy from a mutual fund standpoint is that it’s more than just about past performance. You have to see what stocks are in the portfolio and that you are comfortable with the characteristics of those stocks,” he said.

On average, the large cap value funds that S&P covers have declined 4.3% through June 4, according to Rosenbluth. If an investor isn’t comfortable with that amount of loss, than they need to reconfigure their portfolios. “This has been a more volatile 2010 than it was in 2009. If you just look at 2009 or 2008 performance you may have ended up in riskier funds than you had expected,” he said. “In 2009 risk was rewarded and in 2010 it has not been.”

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