Investing Overseas: the Risks and Rewards

By Doug Charney

Are you interested in more portfolio diversification than is available in the United States stock market? Or maybe you find the vast range of opportunities available in international equity markets enticing? Like many savvy investors who desire new alternatives, you may look to security options abroad. But before you jump borders, consider the following pros and cons of overseas investing:

Positive Aspects of Overseas Investing

• Because of its huge economy, the United States is truly a global leader. But our economy cannot possibly grow at the same rate as those of some developing nations without triggering inflation. On the other hand, China's GDP has grown nearly 8% per year since 1980. Yet China's inflationary rate was deflationary up until late last year and is expected to be only 3.2% in 2004, according to an International Herald Tribune article dated February 24, 2004.
  
  
• Foreign countries host some of the world’s largest companies. Nestle is based in Switzerland, Holiday Inn is based in the United Kingdom and Nokia is in Finland. Even if you don’t use any of these companies’ products, you’ve at least heard of them.
  
  
• Greater diversity. Global investments can produce portfolio volatility and may even increase your returns. Ups and downs in the stock market are caused by numerous factors, including investor perception, interest rates and political environment. These factors, however, are not the same worldwide, and foreign stock markets don't usually mirror the United States stock market. So international investing may help counterbalance any severe domestic drops and vice versa.

Global investing offers many potential rewards, but it also involves some risks worth considering:

• Every international stock is priced in the currency of the company’s country. For example, a German company’s stock is priced in Euros, so the value of the investment will hinge partly on the exchange rate between Euros and Dollars. In fact, investors may experience difficulty in determining the actual value of their foreign stocks due to constant exchange rate fluctuations.
  
  
• Potential political risks. Major political events, such as elections, trade agreements, tax changes and civil unrest can threaten foreign markets. An example of this would be the political and economic problems that affected Mexico in 1994. Mexican stock and bond prices took big losses during this period of Mexican economic unrest. Because these events can occur with little or no notice, international investors must keep watch on global political and economic stability.
  
  
• Foreign governments don’t regulate their companies in the same ways as the United States government. They don’t require the same levels of disclosure, and their accounting rules are different. Japan’s accounting rules, for example, are very different from those in the US. These inconsistencies make investment research more difficult and quite time consuming.
  
  
• Foreign stock markets generally trade at lower volumes than domestic markets, making trade of some securities difficult in the absence of supply or demand. This lack of liquidity is more of a problem in developing markets, where volume can be very light.

What Are Your Options?

If you do decide to diversify your investment portfolio with foreign securities, several options exist:

American Depositary Receipts (ADRs). As an individual, you have the option of purchasing ADRs for foreign stocks. An ADR becomes available when a United States financial institution buys shares of a foreign company, translates the exchange and then resells the receipts on a domestic market. The company retains the stock certificate and pays investors in US Dollars. ADRs offer a higher liquidity and easy transaction process, but are usually limited to major companies throughout the world. ADRs have increased in popularity among investors, and, therefore, the quantity available continues to rise. You must, however, do all your own research on ADRs, and many times the information available on these companies is limited.

Global or international mutual funds. Global mutual funds include United States stocks; international mutual funds exclude US stocks. These types of mutual funds offer you access to professional research and managers with several years of experience in international investments. Because mutual funds own more stocks from more countries than most individuals can obtain, they may offer more diversification and less risk. Mutual funds are sold by prospectus, which contains complete information an investor should consider, including investment objectives, risks, charges and expenses, as well as other important information about the investment company.

Conclusions

US economic downturns and wartime politics make foreign securities more appealing to investors. If you’re looking for additional ways to diversify your portfolio, the international market offers many choices. International markets aren’t affected by the same variables as the domestic market, and many of the giant corporations whose products we use every day are based in other countries. International markets are quite different from the United States market, however, especially since foreign companies aren’t regulated by the same governmental criteria as United States companies.

In addition to your own research, seeking guidance from a qualified financial advisor is always a good idea, especially if you’re a novice global investor. He or she can provide you with a prospectus for any fund you may be considering and can buy and sell on your behalf, based on your investment policy.

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Author Bio: Doug Charney is Senior Vice President/Investments with Wachovia Securities in Harrisburg, PA. For more information call (888) 529-2974, or e-mail dcharney@wachoviasec.com. Or visit www.charney.wbsec.com.