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American Depositary Receipts (ADR)

Written By Brian Hicks

Posted April 21, 2008

With American Depositary Receipts (ADRs), a select group of foreign companies and their domestic partners have brought Wall Street the same international stock opportunities enjoyed by their local investors.

These firms have teamed up with U.S. banks to give you clones of foreign-traded shares, with all the profits that come along with them.

Greek or Japanese stocks move in Athens or Tokyo, and in New York too. In the process you get an opportunity to buttress your portfolio against a U.S. recession as you tap the world’s most dynamic markets.

Just check out this chart of the BLDRS Emerging Markets 50 ADR Index ETF (NASDAQ:ADRE), which tracks 50 leading stocks based in top developing economies like China and Brazil:



As you can see, these leading ADRs have achieved separation from Uncle Sam.

ADRE has nearly a 36% advantage over the S&P 500 just over the past year, and since 2003 the gap is even more jaw-dropping… ADRE shot up by 366%!

This increase in performance is paired with an increase in ADR popularity and a surge of overall interest in foreign markets.

That’s why from a share volume of 4 billion in 1992, more than 44 billion ADRs were traded in 2007.

But the real ADR story stretches much further back than that.

American Depositary Receipts Turn 81

The sub-prime era has its alphabet of doom: The CDO (collateralized debt obligation), CDS (credit default swap), SIV (structured investment vehicle) and other ignominious acronyms were innovated to spread risk so thinly that no one would get burned if defaults sparked a fire, but instead they laid kindling all over the world.

Ironically, the ADR is proof that some innovations of bubble times are built to last.

In 1927, the Dow was more than halfway into the bull rally that preceded the Black Thursday Wall Street crash, and the onset of the Great Depression.

That’s the year Selfridges, a British retailer founded by an American entrepreneur, turned to American investment bank J.P. Morgan to figure out a way to boost its equity by offering dollar-denominated shares.

Morgan came out with the ADR, giving investors and issuing companies a few major advantages that endure through today:

  • ADRs trade on U.S. exchanges, so there’s no hunting or coffee-addled late-night jockeying necessary to move your foreign shares.
  • Currency conversion is handled by a U.S. bank that deals directly with the company, and
  • The most attractive ADR shares are highly liquid, meaning you won’t be stuck holding a dud.
You’ll also find that your ADR shares have been converted to a suitable ratio, say 10 Greek shares to 1 ADR share, to avoid price distortions and unwieldy blocks of penny-sized foreign stakes in your portfolio.

Also keep in mind the different types of ADRs available.

ADR Levels

There are a few kinds of ADR shares you want to be aware of:

Unsponsored ADRs are the loosest pebbles on your path to foreign equity investment. They have no regulatory reporting requirements and are issued only in response to market demand. No custodian agreement is established in the home country, and more than one depositary bank may be used for issuance in the U.S.

The next step up is a Level I sponsored ADR, used to create a U.S. market for a particular company without the requirement of annual reports to the Securities and Exchange Commission or adherence to generally accepted accounting principles (GAAP). These companies may display what accounting they choose to share in foreign currency denominations.

In other words, they show you what numbers they want to show you.

Level I ADRs can only be traded in the Pink Sheets or Over-the-Counter electronic trading systems.

Level II involves SEC listing requirements for foreign companies that match most U.S. corporate listing standards. At this stage, an ADR can be listed on a U.S. stock exchange (NYSE, AMEX, or NASDAQ).

Level III ADRs are the apex of ADR-dom, and they are the ones you should focus on. Simply put, Level III programs have to offer more prospectus information before listing, and they have to raise capital before going public, which means an initial share offering acts as a sort of litmus test for the company’s Wall Street future.

These companies are the most transparent, and often the most comfortable option for ADR purchasers.

We’ve seen healthy changes to the ADR landscape in recent years, as the post-Enron and WorldCom era of time-intensive corporate filings have exposed some foreign companies with thin U.S. volume.

In 2007 those companies were given the opportunity to deregister from the SEC if their ADR trading volume represented only a sliver of the global total.

Global Growth Stocks subscribers cashed out of one such company, Finland’s Metso Oyj (formerly NYSE:MX), after the company announced its move to the OTC trading system. Metso’s ADR trading volume had gotten down to below 1% of its total (the rest coming back home in Helsinki and on a few German exchanges).

Metso saved itself a chunk of change in accounting costs with that move, but not before we racked up a 37% gain in a matter of months.

There were, and are, plenty of gains still to be had. The GGS portfolio is rolling along, profiting from market movements with prime ADR plays that see hundreds of thousands—if not millions—of shares traded on the NYSE, NASDAQ, and AMEX every day.

We’re also blazing a trail in another area of international investment you can’t afford to ignore—exchange-traded funds.

I’ll tell you all about today’s ETF options for global investors in next week’s Wealth Daily.

Until then,

Sam Hopkins