International Economics: MONEY FLOWS
WHO'S AFRAID OF GLOBAL MARKETS? NOT U.S. INVESTORS
The Mexican peso meltdown. Chaotic markets in deflation-plagued Japan. Ominous political rumblings between China and Taiwan. Rumors that Argentina's tried-and-true Economy Minister might quit. You would think U.S. institutional investors would be running for cover from foreign markets, back to the safe haven of home-grown blue chips and Treasury bonds they have favored in the past.
Think again. Permanently convinced that putting all of their eggs in a domestic basket is ultimately riskier, U.S. investors continue to roam the world in search of portfolio diversification and growth. Mirroring the sweeping globalization of American industry, U.S. portfolio investments are expanding so rapidly that they now account for 12% of the nation's $9 trillion in pension and mutual-fund assets, the International Monetary Fund estimates, up from under 5% in 1991. In the past five years alone, U.S. investors have poured more than $330 billion into stocks and bonds from Toronto to Taipei (charts), according to the Federal Reserve Board.
That share will almost certainly keep rising. International securities are already a mainstay of Wall Street's investment banks--and Main Street's portfolios. Thousands of international companies trade on U.S. markets as American depositary receipts, and large quantities of international equities have even become fundamental parts of many domestically oriented mutual funds. Some pension funds, including that of the Illinois teachers' retirement system, have invested over 20% of assets abroad.
GOING OVERSEAS. With Germany, China, Mexico, and a host of other countries planning to offer American investors the chance to take part in huge privatizations over the next few years, the rush to overseas funds shows little sign of abating. By 2000, estimates InterSec Research Corp., a financial consultant in Stamford, Conn., U.S. pension funds' international assets will reach $725 billion, more than double what they are today.
U.S. pension and mutual funds are going overseas for sound economic reasons. Many investment experts believe that only through globalization can American institutions achieve the portfolio diversification they need to provide a generous long-term return without taking inordinate risk.
It's no wonder, then, that a recent Greenwich Associates survey of 1,620 U.S. pension funds managing $2.7 billion in assets found that 65% already invest abroad--and 28% more plan to do so shortly. The consultant, based in Greenwich, Conn., found that 17% of the funds play the emerging markets--and they are sticking by their investments despite the sector's blowout earlier this year.
SHOCK WAVES. Look at the performance averages, and it's no surprise money managers are staying the course. Global investing has paid off even in the face of periodic bubbles and panics on world markets. Over the past 10 years, InterSec Research estimates, U.S. pension funds earned a compounded annual return of 18.2% on overseas investments. That's nearly four percentage points greater than what the funds would have earned by investing in the overwhelmingly domestic stocks that make up the Standard & Poor's 500-stock average. "U.S. investors are finally convinced that `international' is something that belongs in their portfolios," says InterSec Director James A. Diack.
To be sure, massive flows of cross-border capital can cause upsets, as the turbulent markets of 1994 demonstrated. Last year, when the Federal Reserve sharply hiked interest rates to head off inflation, many investors shifted capital back to America to seek rising yields. That--and the subsequent Mexican debacle--sent shock waves through Latin America, Asia, and Eastern Europe. Baring Securities International Ltd. strategist Michael J. Howell estimates that the interest-rate reversal caused the flow of U.S. portfolio capital abroad to plunge from 1993's record $437 billion to $233 billion in 1994.
In another sign of the punch that U.S. money flows can pack overseas, foreign companies must pay increasing attention to pleasing American investors. That has brought a new discipline to management. As global investors demand more uniform standards of corporate accounting and disclosure, many foreign companies must learn to meet the close scrutiny of those who provide their capital.
For example, James Hatt, British-born CEO of Petersburg Long Distance Inc. (PLD), spends most of his time overseeing his telephone company's operations in the former Soviet Union. But every few months, Hatt makes a crucial trip to the U.S. After Toronto-based PLD raised $98.4 million last year via a stock offering on NASDAQ's over-the-counter market, Hatt soon learned that he would regularly have to make the rounds on Wall Street to keep his stockholders up to date.
The sheer weight of U.S. money flows is also putting pressure on companies to deliver satisfactory returns on equity. Take giant Deutsche Telekom, the German phone monopoly slated for privatization in 1996. If it wants its estimated $10 billion initial public offering to succeed, Telekom must win over foreign investors--especially Americans, the world's biggest buyers of stock.
In Germany, where most investors don't buy equities, the market is far too small to absorb Telekom's shares. So the company will have to show the kind of profit projections that make U.S. stock analysts write "buy" recommendations. To do that, the company must slash its staff, improve management, and deliver returns comparable to those of fast-growing private phone companies elsewhere. "There's a general perception that Deutsche Telekom is a very badly managed company," says Mark Breedon, manager of the New York Stock Exchange-listed Global Privatization Fund. "International investors will have to believe efficiencies will be gained, or else they won't buy."
RAFT OF PRIVATIZATIONS. Edward McMillan of Denver money manager Bee & Associates Inc. calls this phenomenon "the globalization of value." The world is inexorably moving toward a single investment standard. And because Americans are the ones moving the most cash abroad, that standard will probably be dictated by U.S. money managers.
Even if it takes years, the transition will only further whet Americans' appetite for far-flung investments. After last year's emerging-market debacle, U.S. investors have resumed shifting cash offshore.
In 1995, U.S. portfolio outflows should rise to $330 billion, figures Baring's Howell. And why not? Brazil, for example, is planning a raft of privatizations. So are several countries in Europe. Even Canada is selling railroad assets to raise cash. Despite the inevitable crashes and rebounds, the U.S. is sure to be in on these opportunities in a big way. With proof in their pockets that taking risks abroad pays off, for American investors, there's no turning back.By William Glasgall in New York