Over the last few years, while US markets were recovering from
the bursting of the dot-com bubble, the economies of India and
China were booming. Compared to the Dow Jones Industrial
Average's dismal loss of 0.6% in 2005, India's BSE index gained
42.3%, the Japanese Nikkei Index gained 40.24%, and Germany's DAX
30 gained 28%. While US drivers continue to face rising oil
prices that shot gasoline prices over the $3/gallon mark in many
parts of the country, gas is cheaper than water in Venezuela (10
to 15 cents per gallon) sparking a boom in auto sales there. This
may be very surprising news to investors in auto stocks such as
Ford and GM, who watched their investments implode to barely half
their value in 2005.
Traditionally, financial advisors have advocated for holding
15-20% of one's overall portfolio in international stocks. There
seems to have been a change in this sentiment recently, with some
advisors recommending that as much as 50% of a portfolio be held
in international stocks. Fear could be driving this trend. Fear
that the real estate bubble might burst (the median price of a
home in San Francisco/San Mateo is now around $750,000); that
huge budget deficits could push the value of the US dollar over
the proverbial cliff; of the long term effects of rising
inflation and missing out on opportunities in emerging markets
around the world.
Why Invest Internationally?
There are three main reasons why international investments should
form a big part of your investing strategy. International
investing can
1. Serve as a hedge against your domestic portfolio of stocks and
bonds. Hedging is often considered a big and mysterious word, but
in the world of personal investing it boils down to something as
simple as protection. International stocks may offer protection
against a falling US market, protection against a plummeting
dollar or protection against inflation. If protection against a
declining US dollar is the objective, then care should be taken
not to invest in markets (like China's) whose currencies are
still pegged to the US dollar.
2. Reduce overall risk through diversification on an
international scale, by lessening the chances that local
catastrophes or recessions might wipe out a large part of
your portfolio.
3. Provide a much larger pool of companies to pick from. If you
feel that the pharmaceutical industry is likely to do well over
the next few years but do not like the growth prospects of
domestic companies like Merck (Ticker: MRK) or Pfizer (Ticker:
PFE), you might choose to invest in Switzerland's Novartis
(Ticker: NVS) or Israel's Teva Pharmaceuticals (Ticker: TEVA)
instead.
How Can You Invest Internationally?
Make use of any of these three instruments that you have at
your disposal.
1. Multinational Corporations:
Many of the brands you know and love are also brands that are
known and loved by citizens of dozens of countries. Johnson's
Baby Soap, Colgate Toothpaste and Gillette are brands that are
recognized all over the world and the companies that own these
brands derive a large portion of their income from operations in
other countries. For example, Johnson & Johnson (Ticker: JNJ),
Colgate Palmolive (Ticker: CL) and Procter & Gamble (Ticker: PG)
generate more that 50% of their income outside the United States.
Even Ford, which is facing tremendous pressure domestically and
losing market share to Toyota and Honda, grew its sales in China
by over 46% in 2005.
2. American Depository Receipts (ADR):
ADRs are actually international stocks that are quoted on the US
stock exchanges like the Nasdaq or NYSE. Large American brokers,
like JPMorgan, usually facilitate this process. Commonly known
and widely held ADRs include Nokia (Ticker: NOK) and Sony
(Ticker: SNE). If you really like Panasonic TVs and think that
the company could greatly benefit from the explosion in sales
of flat panel HDTVs, you could easily buy the ADR of its parent
company Matsushita Electric (Ticker: MC) in the same way you
would buy a domestic stock like Dell. In most instances ADRs
quote very close to the price of the stock in its domestic
market, but in some instances it could quote at a premium to the
value of the actual stock. To determine the premium associated
with an ADR, obtain the price at which the stock quotes in its
local market (Yahoo Finance is a good source) and convert it into
US dollars. The difference between this amount and the price of
the ADR is the premium you are paying for the ADR.
When I bought the ADR for Wipro Technologies (Ticker: WIT), one
of the largest technology companies in India, the ADR was trading
at a premium of almost 25%. In another instance, when I purchased
the ADR for Tata Motors (Ticker: TTM), a large automobile company
based in India, the ADR was trading at a value very close to the
value of the underlying stock. Both these ADRs have provided
outstanding returns over the last few months. Sometimes each
ADR may represent a fraction of the underlying stock or, in
some instances, two or more shares of the underlying stock.
This should be verified first before determining the premium
associated with the ADR, if any. A quick glance at the SINLetter
Model Portfolio http://www.sinletter.com/portfolio.aspx will make
it clear just how big a part international stocks play in my
overall investing strategy.
3. Exchange Traded Funds (ETF):
For those of you who would prefer not to invest in individual
stocks and/or have a more conservative investment strategy, ETFs
could help provide the necessary international exposure. Exchange
Traded Funds are like mutual funds, with one small difference.
They can be bought and sold at any time like a regular stock from
your brokerage account. ETFs also have very low expense ratios
and hence provide an ideal low-cost vehicle for diversification.
Investors who are interested in diversifying internationally can
easily do so by buying an ETF, such as the iShares MSCI Brazil
Index (Ticker: EWZ), which tracks Brazil's Bovestpa Index. On
the other side of the globe, Japan (emerging from a 15-year
recession), is now showing signs of recovery. If you feel that
there is still a potential upside to the Japanese market after
the 40.24% run-up in 2005, you could easily invest in Japan
through the ETF iShares MSCI Japan Index (Ticker: EWJ) which
tracks the Japanese Nikkei index.
International investing has its risks but, if done right, it
can serve as a balance, and reduce the risk of a portfolio that
exclusively holds domestic stocks, bonds and mutual funds. Using
the Internet and the vast number of free news services to keep
informed about events around the globe, the world can easily
become your investing playground.
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