Investing overseas has caught fire among U.S. investors, and it has become Wall Street's strategy du jour. Americans poured $126.1 billion into global and emerging markets over the past 12 months through March, accounting for a record 56% of the inflows into all U.S. mutual funds, notes Edward Yardeni, chief investment strategist at investment firm Oak Associates. Americans also put in an additional $28.6 billion in global exchange-traded funds.
What's driving American funds to foreign shores are the awesome returns, which have been mightily outscoring those of U.S. indexes for the past three years. While it's easy to see why an investor would be tempted, I want to issue a warning to the neophytes: The markets overseas are fraught with even greater risks than the domestic markets, as there is no uniformity or consistency in investment rules, or in accounting, currency, or securities trading. And there is the ever-present danger of political and government instability in some countries. Repatriation of capital -- taking your money out of some of these countries -- can also be iffy.
However, the savvy investment professional who can navigate these exotic but arcane markets may find that fishing in foreign waters can, indeed, be most profitable. Donald Gimbel, senior managing director at Carret Asset Management, which shepherds some $2 billion, is one of them. His Carret Global Fund scored a 35.6% gain during its most recent one-year period, vs. 15.41% for the S&P 500. Over a three-year period, Carret Global gained 30.24% vs. the S&P's 14.65%. And Carret's five-year gain has been 10.47%, compared with the S&P's 2.69%.
ALL IN THE DETAILS.
Before taking the plunge, it's important to review the cardinal rules for overseas investing. While many of the principles also hold true for investing in the U.S., they are even more important when investing overseas. In most countries, the regulators don't require much information from companies, and rules on disclosure of material information aren't that stringent.
David Riedel, president of Riedel Research Group, which specializes in finding attractive and undervalued stocks in Asia, says investors should look for companies with "sustainable business models," based on their cash flow, debt-to-capital ratio, and long-term profitability. Another important point to consider: valuation. Stocks should have reasonable valuation based on metrics such as price-earnings and price-to-EBITDA (earnings before interest, taxes, depreciation, and amortization) ratios.
Finally, look at management's background. If top executives belong to the family that owns the majority of the stock, that's a bad sign. Usually, members of a clan have different goals for the company than strictly professional managers who are not relatives. The priority of family members is not growth but to take as much money out of the company as possible, which is especially true of companies in emerging countries.
If the stocks in these foreign countries are traded in the U.S., getting pertinent information about the companies and their execs shouldn't be too difficult. But for companies not listed in the U.S. and only available on the local stock exchanges, you will have to do diligent research yourself, or find professionals savvy in foreign markets to do the work for you.
Riedel says he looks for "solid domestic plays on the very attractive attributes of the emerging markets." He doesn't recommend investing in oil, mining, or other commodity plays. In the emerging markets he likes companies that are in housing finance, civil engineering, cinema, retailing, quick-service restaurants, and mobile phones.
Among his recommended stocks is Alsea, which trades on the Mexican stock exchange with a $500 million market cap. It is the franchisee in Mexico for such standout U.S. companies as Starbucks (SBUX), Domino's Pizza (DPZ), Popeye's Fried Chicken, and Chili's. The company has little debt and is run by an experienced management team, says Riedel. In India, Riedel's top pick is TVSM, the third-largest motorcycle maker in that country. The motorbike has become one of the most popular modes of transportation in India, where 70% of the population still lives and works on farms.
IN THEIR PRIME.
In Chile, Riedel's favorite is Compania de Telecomunicaciones, which trades on the Nasdaq with the ticker symbol CTC. It provides a broad range of telecom services in Chile, including local and international phone services. Now trading at $7 a share, Riedel figures the stock is worth $12 based on a discounted cash-flow analysis. It is the largest fixed-line service provider in the country and the second largest in long-distance and broadband services.
The ultimate question in the fast-growing foreign markets: Having already amassed huge gains, are they at their peak? "Not at all," says Gregory Jones, managing director and senior portfolio manager at investment firm Clay Finlay, which specializes in global equity investing. The company invests in both large- and small-cap stocks in the industrialized as well as emerging markets. Jones believes the emerging markets are still trading at a large discount to developed markets.
Stability in these markets, he says, is being helped by increasing efforts in these countries to improve fiscal and monetary management, and increase foreign currency reserves. And corporate governance and transparency, while still lagging, have improved in the past 20 years, notes Jones. Since the emerging markets now represent more than half of the world's GDP in terms of purchasing-power parity, "it may be time for investors to rethink their investment allocation," he says. Clearly, the game in overseas investing is far from over.