Today’s investment opportunities are not geographically limited. With stock brokers that have foreign stocks investment options, you can invest in emerging economies and market growth worldwide. If you’re interested in diversifying your portfolio, you might want to invest in some of them.
For many investors, purchasing foreign stocks allows them to diversify their risk while also providing exposure to the growth of other economies. Many financial advisors believe that foreign stocks are a good addition to a portfolio. They recommend a 5% to 10% allocation for conservative investors and up to 25% for aggressive investors.
Key Takeaways
• ADRs, GDRs, direct investing, mutual funds, ETFs, and MNCs are all ways for investors to gain access to foreign stocks..
• Purchasing foreign stocks allows investors to diversify the risk of their portfolio while also providing exposure to the growth of other economies.
• For conservative investors, financial advisors recommend a 5% to 10% exposure to foreign stocks, and up to 25% for aggressive investors.
The Risks of Foreign Stocks Investment
International investing, on the other hand, has a negative side effect. In terms of volatility, emerging markets are generally regarded as riskier. They can experience sharp changes in market value, and in some cases, political risk can completely destabilize a country’s economy. Furthermore, foreign markets may be less regulated than those in the United States, increasing the risk of manipulation or fraud.
Investors today have unprecedented access to 24-hour global news, but there is also a risk of insufficient information from a market that is frequently thousands of miles away. This can make it difficult for the investor to interpret or comprehend events.
Finally, currency risk arises from fluctuations in the exchange rate against the investor’s home currency. Of course, currencies can move both ways and can benefit investors.
Among the few ways to gain exposure to growth outside the U.S. are:
1. American Depository Receipts (ADRs)
ADRs (American depository receipts) are a convenient way to purchase foreign stocks. ADRs are used by foreign companies to establish a presence in US markets and, in some cases, to raise capital. Alibaba (BABA), the Chinese e-commerce giant, raised $25 billion in 2014 (the largest initial public offering at the time) and listed its ADRs on the New York Stock Exchange (NYSE).
ADRs are classified into three levels and can be sponsored or unsponsored.
• Level 1 ADRs can be used to establish a trading presence in the United States but not to raise capital. They can only trade over-the-counter because they are unsponsored (OTC).
• Level 2 ADRs can be used to establish a trading presence on a national exchange like the NYSE, but not to raise capital.
• Level 3 ADRs can list on national exchanges in addition to being used to raise capital.
Each ADR issued by a foreign company represents one underlying share or a number of underlying shares. One Vodafone Group (VOD) ADR, for example, represents ten underlying shares, whereas Sony Corp (SNE) ADRs represent the underlying on a 1:1 basis.
These ADRs are listed, traded, and settled in the same way that shares of domestic US companies are. As a result, they are an easy way for the average investor to hold foreign stocks.
2. Global Depository Receipts (GDRs)
Another type of depository receipt is a global depository receipt (GDR). A depository bank buys and sells foreign company shares in international markets, typically in Europe, and makes them available to investors both inside and outside the United States. Many GDRs are denominated in US dollars, but some are in euros or British pounds. Typically, they are traded, cleared, and settled in the same manner as domestic stocks.
GDRs can be found on the London and Luxembourg stock exchanges, as well as in Singapore, Frankfurt, and Dubai. Prior to public trading, GDRs are typically placed with institutional investors in private offerings.
3. Foreign Direct Investing
Investors can buy foreign stocks directly in two ways. A global account can be opened with a broker in your home country, such as Fidelity, E*TRADE, Charles Schwab, or Interactive Brokers. Another possibility is to open an account with a local broker in the target country. For example, the Hong Kong-based MONEX BOOM trading platform provides investors with access to Hong Kong stocks as well as 11 other markets. Going direct is not for the inexperienced investor. Additional costs, tax implications, technical support requirements, research requirements, currency conversions, and other factors must all be considered. To summarise, only active and serious investors should engage in foreign direct investment. Investors should also be cautious of unregistered brokers.
4. Global Mutual Funds
Investors who want to explore global markets but don’t want to deal with the hassle can choose an international equities mutual fund. One of the many benefits of mutual funds is their simplicity.
Internationally focused mutual funds are available in a range of styles, from aggressive to conservative. They can be regional or national in nature. They can be actively managed or passive index funds that track an overseas stock index. However, be wary of fees: Globally focused mutual funds may have higher costs and fees than domestic counterparts.
5. Exchange-Traded Funds (ETFs)
An international exchange-traded fund provides investors with a convenient way to gain exposure to foreign stocks investment markets. Choosing the right exchange-traded fund (ETF) can be easier than putting together your own stock portfolio.
Some ETFs offer exposure to multiple markets, whereas others concentrate on a single country. These funds invest in a variety of asset classes, including market capitalization, geographical region, investment styles, and sectors.
iShares by BlackRock, State Street Global Advisors, Vanguard, FlexShares, Charles Schwab, Direxion, First Trust, Guggenheim Investments, Invesco, WisdomTree, and VanEck are among the leading ETF providers. Investors should consider costs and fees, liquidity, trading volumes, tax issues, and portfolio holdings before purchasing an international ETF.
6. Multinational Corporations (MNCs)
Investors who are hesitant to buy foreign stocks directly, or who are wary of ADRs or mutual funds, can look for domestic companies that generate a significant portion of their revenue from overseas.
MNCs are best suited to this task. This could imply purchasing The Coca-Cola Company (KO) or McDonald’s (MCD), both of which generate the majority of their revenue from international operations. This is a backdoor strategy that does not provide true international diversification but does provide investors with international exposure.
The Conclusion
Understanding the factors that could impact your returns requires knowledge of the political and economic conditions in the country in which you are investing. As always, investors should consider their investment objectives, costs, and expected returns, as well as their risk tolerance.
Foreign stock investments are certainly attractive because most of them are giving high returns, however, it’s a good idea to diversify with an ETF or index fund to reduce risk.
