INVESTMENTS  -  INTERNATIONAL
 
 

Investments – International (1st)
 

The Case for International Investing

More and more U.S. investors are coming to realize that every portfolio should have at least some international exposure. The easiest way to play the foreign stock markets is through a foreign-stock mutual fund. But foreign funds are not the only way, nor are they necessarily the best way to invest overseas for many investors.

Buying individual foreign stocks directly in overseas markets can be costly; and the investment research needed can be extremely difficult and time-consuming. Because of the complexity of international investing, professional management and experience in the local markets are indispensable. In this respect, foreign funds offer a distinct advantage. For starters, broadly based international mutual funds provide instant diversification into a wide array of stocks in many foreign markets. But for more-seasoned investors, or those who are partial to a particular region or country or individual foreign stocks, broadly based international mutual funds may not be the preferred choice. In recent years, more specialized open-end funds have proliferated, and open-end country and region funds are easier to find. Still, for investors who want to explore other ways to venture abroad with their money, the following vehicles may be worthy alternatives to open-end mutual funds.

Closed-end International Funds

A wide array of closed-end international funds, many of which specialize in a country, a region, or an industry within a certain foreign market, is now available. Like their more popular open-end brethren, closed-end funds are designed for individual investors. Similar to open-end mutual funds, they pool investors’ money and then leave the buy and sell decisions to professional investment managers.

Unlike open-end international funds, which issue or redeem shares according to investor demands, a closed-end fund – international or otherwise – initially raises money by issuing a fixed number of shares, and then invests the money in its targeted market or market segment. The shares of the closed-end fund will then trade on a stock exchange. If a share-holder wants to redeem his shares, he has to sell them on the stock exchange, just like selling shares of a publicly traded company.

This particular feature gives closed-end funds an edge over open-end funds: They don’t need to keep cash on hand to meet shareholder redemptions. Thus, in a bull market, closed-end funds can have their assets fully invested; and in a market downturn, they will not be forced to sell shares to meet investor redemptions. Never having to worry about investing new money or coping with redemptions can be advantageous to closed-end fund managers, particularly those investing in less-liquid emerging markets.

An important consideration when buying a closed-end international fund is whether the fund trades at a premium or a discount. Unlike open-end funds which always trade at their net asset values (NAVs), closed-end funds almost always trade either at a discount or a premium. So in addition to the price movement of the underlying assets, a number of other factors may affect the share price of a closed-end fund, including the past performance of the fund, general trend of the market(s) and, perhaps most importantly, investor sentiment. Similar to trading individual stocks, investor sentiment often changes the price of a closed-end fund – upward or downward – faster than the fund’s NAV itself.

Investors can use the premium or discount to their advantage. The emerging-market correction last year, for example, sent many closed-end emerging-market funds into a steep dive. Most of them still traded at a huge discount early this year when emerging-market stocks started to rally. Enjoying the double benefit of rising NAVs and shrinking discounts, so far this year many closed-end emerging-market funds have posted excellent returns, well ahead of their open-end cousins. Investors who bought closed-end emerging-market funds early this year at big discounts have been richly rewarded.

Many international closed-end funds still trade at large discounts. Twenty percent discounts are not uncommon – meaning you can buy a dollar’s worth of stock for just 80 cents. While there’s no guarantee that the discounts will shrink – they could widen – investors are well-advised to give closed-end funds in general, and foreign closed-end funds in particular, a close look.

WEBS and Country Baskets

Two new international investment products launched earlier this year also offer investors easy and cost-effective ways to play in the overseas markets: World Equity Benchmark Shares (WEBS) and Country Baskets Index Funds (Country Baskets). Introduced in response to U.S. investors’ increasing demand for international investing options, both new products are single-country index funds designed to replicate the performance of specific-country stock indexes.

WEBS were developed by BZW Barclays Global Fund Advisors in partnership with, among others, Morgan Stanley Capital International. BZW Barclays Global Fund Advisors acts as the investment advisor. Currently, 17 WEBS, a combination of foreign shares and some derivatives, have been issued to track 17 markets, as measured by Morgan Stanley Capital International country indexes. There markets are Australia, Austria, Belgium, Canada, France, Germany, Hong Kong, Italy, Japan, Malaysia, Mexico, Netherlands, Singapore, Spain, Sweden, Switzerland, and the United Kingdom. All WEBS trade on the American Stock Exchange. The number of stocks under each WEBS ranges from 16 (Belgium) to 194 (Japan).

WEBS represent an interesting combination of international closed-end, open-end, and index funds. Like closed-end funds, WEBS are listed on a stock exchange, so investors buy or sell shares through their brokers. Like open-end funds, on the other hand, WEBS will issue or redeem shares on investor demand. They should, therefore, trade at or close to their NAVs. Yet WEBS are actually index funds that duplicate their benchmark indexes. As index funds, WEBS have lower management fees than their actively managed counterparts: WEBS expense ratios are about two-thirds of the expense ratios of the average closed-end country fund and about one-half of the average open-end fund.

Country Baskets, developed by Deutsche Morgan Grenfell, the investment advisor, and Goldman Sachs, are similar to WEBS. Currently, there are nine Country Baskets: Australia, France, Germany, Hong Kong, Italy, Japan, South Africa, the United Kingdom, and the United States. Their benchmark indexes are the Financial Times/Standard & Poor’s World Indexes. The number of stocks in the Country Baskets ranges from 45 to 630 – a larger asset base than WEBS, which increases the likelihood that they will track their underlying indexes more closely than WEBS. All Country Baskets trade on the New York Stock Exchange.

ADRs

Another convenient way for U.S. investors to achieve global diversification is to buy American Depositary Receipts (ADRs). An ADR is a negotiable certificate that represents a predetermined number of shares of a publicly traded foreign company. It is issued by a foreign company, while the underlying shares are held by a U.S. bank that serves as the depositary. ADRs allow investors to bet directly on individual stocks.

ADRs were first introduced in the 1920s and have been growing rapidly in recent years. Currently, there are over 1,400 ADRs from about 45 countries, including most world-class companies in the industrialized countries and many newly privatized companies in the world’s rapidly growing regions. Trading in ADRs is setting records: Now ADRs account for more than five percent of all trading volume on the major U.S. exchanges.

Purchasing ADRs is almost always less costly than buying foreign company shares directly in their home markets. Investors don’t have to pay the more expensive overseas custody fees, fees for currency transactions, foreign stamp duty, and dividend taxes. Most ADRs are listed on the major U.S. stock exchanges, and are quoted and traded in U.S. dollars. Their dividends are paid in U.S. dollars as well. Buying and trading ADRs avoids regulatory or operational snags often associated with purchasing foreign shares outright. In short, ADRs offer an excellent way to capitalize on the opportunities offered by many large foreign companies.

Go Direct

In addition to ADRs, there are a few hundred foreign common stocks listed on the major U.S. stock exchanges. Still, U.S.-listed foreign stocks and ADRs together represent only a small fraction of the world markets, and the vast majority of foreign companies trade only in their home markets.

If you are attracted by a foreign company’s earnings outlook and growth potential, and that company trades only on the market of its home country, with the help of a major brokerage firm, you can probably buy shares of the company directly on the stock exchange where it’s listed. With electronic trading, electronic bookkeeping, and instant communication now in place in most foreign markets, buying and selling stocks directly on the foreign exchanges is no longer the arduous undertaking that it used to be. A couple of decades ago, it could take two days for an order to go through, and you had to wait perhaps two to three weeks to receive the share certificate.

Now, the biggest delay in most foreign trading markets is the time difference. It may take as little as a few minutes to execute a trade, or up to 24 hours, but normally no more than 24 hours. If you put in a market order after the closing bell of the foreign market, the trade will normally go through as soon as the foreign market opens the next business day.

The commission rate charged by most brokerage firms that offer retail customers foreign trading is the same as for a U.S. stock: It could cost less than $20 per trade at a discount broker, or up to 2%-3% of the trade value at a full-service broker. Most, but not all, brokers trade stocks listed on foreign exchanges.

Finally, be aware that international investing involves both market risk and currency risk. Although we have all the vehicles of international investing designed for you to go almost anywhere you want, you still have to do your homework before investing.
 
 
 

Investments – International (2nd)
 

Building a Diversified Portfolio Within the International Fund Arena

With the availability of so many international funds, investors have much less of an excuse to be isolationists. In fact, investors of a mind to go offshore have enough options to make their international investments a separate and distinct subset of their portfolio.

Investors who reaped big gains in domestic funds over the past few years might ask, “why bother?”.  Advocates of international investing generally trot out several reasons why it’s worth the bother, and all of them have considerable merit:
 

• Every year there is one country that wins top honors as having the hottest stock market in the world, and that country usually isn’t the United States.

•  Investing overseas provides needed portfolio diversification – and if done right, lessens portfolio volatility. That’s because the United States, and all other countries for that matter, has its good and its bad investment years. But during years when things are going badly here in the U.S., there almost inevitably will be some places in the world for which it’s a good year.

• The last decade has been an extraordinarily good one for U.S. markets. Unfortunately, this may result in stocks taking a breather. At the same time, many overseas markets are cheap in comparison to ours, and are more likely to reward investors with superior returns.

 
Take Your Pick

There are, at this point, four categories of international stock funds: multi-country/multi-region, single country/single region, small cap, and emerging markets. Let’s take a closer look at these categories:

Multi-country/multi-region

Here we have your traditional foreign or global equity fund. Such a fund can own stock in companies throughout the world. That said, the manager generally will have some strong views as to what parts of the world have the best potential for growth and will overweight holdings in these regions or countries.

If the multi-country/multi-region fund is a foreign equity fund, there will be no investment in United States stocks. Global equity managers, on the other hand, genuinely have the entire world to choose from, and many will allocate a substantial portion of fund money right here in the United States. Nonetheless, for the investor who wants to ensure this money genuinely is being invested overseas, a foreign fund must get the nod.

Single country/single region

Funds of this ilk are considerably more speculative. You as the investor have made the judgment that a particular country or region is going to grow and thrive. But if that’s your preference, your investment money will be narrowly directed. You essentially have made an important management decision for the manager. (A global or foreign fund manager is allowed to move money into whatever region looks good.) But when invested in a single country or single region, your money is much more liable to volatility as this particular country or region experiences normal economic ups and downs. For the investor excited about opportunities in a particular part of the world, however, such a fund may, in good years, yield superior returns to a grab-bag-of-countries fund.

Small cap

If you like U.S. small caps you may also like foreign small caps. Foreign or global small caps are a way to get into companies throughout the world that may be ready to grow. Foreign small companies may also have the advantage of being close to markets that are growing far more robustly than the U.S. market. Such a fund, however, may also be somewhat more speculative, just as a domestic small-cap fund is more speculative. Small caps have more room to grow, but they also don’t have some of the cushion that the big guys have.

Emerging markets

Here’s a type of fund for the investor who believes heretofore struggling areas of the world are on the verge of blooming. This type of fund also is more speculative. Many of these emerging regions still have nagging economic problems – some of the same problems that may have held them back in the first place. These less broad-based economies are more vulnerable to economic downturn. Finally, the stock markets of emerging countries are relatively new, and, therefore, may be more susceptible to speculative excess when they rebound. But all in all, an emerging-markets fund may have a place in your international portfolio.

Building a Portfolio

So let’s say you’re sold on the idea of building a sophisticated overseas portfolio for yourself. Where should you start?

First, set aside a portion of your investment money solely for international funds. Consider that portion a separate, autonomous investment portfolio. Second, make a decision as to how you want to apportion your money among the different categories of international funds. Then, begin your search of good funds in each of categories you want to invest in.

Here are two examples of how you might diversify the international portion of your stock investments.
 
 

Investments – International (3rd)
 

International Small-Cap Funds

Many investment experts assert that foreign small-company stocks represent an important component of a well-diversified foreign stock portfolio and may at this time offer as much or more opportunity for growth than do U.S. small company stocks. Like their U.S. counterparts, foreign small-cap stocks have not enjoyed this bull market. Small companies in any nation are more directly affected by the overall economic conditions of their respective countries than are their large-cap countries.

Better times ahead? Many investment professionals, not just the managers of small-cap international funds, are suggesting that this is an excellent time to invest in this market segment. These stocks have so woefully underperformed most other stock sectors that the upside potential is very strong. Small company international fund managers are feasting on the combination of bargain-basement values and lack of research that characterizes foreign small-company stocks.

Mutual funds are the obvious way to play this market. Though some foreign small company stocks trade on the U.S. stock exchanges as ADRs, the vast majority must be purchased on their local stock markets. This, in and of itself, is problematic. On top of that, obtaining information on these companies is difficult, and even when you can get it, it may well be unreliable.