Look Overseas with American Depositary Receipts

As the financial markets go global and investors seek out opportunities worlds away, American Depositary Receipts have emerged as a very convenient method of obtaining exposure to foreign securities.

An American Depositary Receipt, also known is an ADR, is a class of security on American stock exchanges which represents real ownership in a foreign company. A wide range of companies currently use ADRs, mostly giant corporations who are known not only in their home country, but around the world as well. Well known ADRs include companies like AmBev, a subsidiary of the world's largest brewer, Baidu, a Chinese internet company, or BP, the massive oil company.

The goal of an ADR or American Depositary Receipt is to reduce transaction costs involved in purchasing a stock in a local market. In the case of the three examples above, investors would have to open accounts and trade shares in Brazil for AmBev, China for Baidu, and England for BP. In doing so, most investors would incur excessive trading commissions, and they would also have to open multiple accounts in foreign countries. With an ADR, however, shares of each company can be purchased locally.

Currency Simplicity

One of the best reasons for owning an American Depositary Receipt is to limit the difficulty in accounting for changes in currency prices. While shares of stock may trade for different currencies in their home markets, all ADRs are traded in dollars, and dividends are disbursed in US dollars.

Every ADR on the market is a product of a U.S. Depositary bank, which has purchased shares in one lot on a foreign exchange and repackaged them in the United States with their own unique ticker symbol. Commonly ADRs are made to represent partial shares in the case of high share price stocks, or multiple shares in the case of low priced stocks.

While the first stock was brought to the US as an ADR in 1927, only a few large brands ever make the journey to the United States. This is due in part to the fact that establishing an ADR, while cheaper for the end user or investor, can be expensive for the institution. Some countries charge taxes on the formation of ADRs by depositary institutions.

Moderating Values

Since American Depositary Receipts are free-floating, there is a possibility that share prices in the United States may diverge from their equivalent in the home country, much like exchange-traded funds can diverge from their net asset values. However, due in part to the fact that ADRs are commonly assembled using well known and frequently traded companies, arbitrage profit opportunities for quick acting speculators allow the markets to freely moderate the discount or premium of an ADR relative to its home value.

Frequently, ADRs will trade in the United States even while the markets are closed overseas. For example, London and New York markets overlap for only a few hours each day, and toward the close of the session, BP's share price could be rising and falling in the United States, even while the trading is ceased for the night in London. Investors should welcome American Depositary Receipts as a way to gain exposure to foreign markets without the complexity of opening multiple trading accounts in different currencies and brokerages, and without the annual fees of exchange-traded funds.
Tim Ord
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Tim Ord is a technical analyst and expert in the theories of chart analysis using price, volume, and a host of proprietary indicators as a guide...

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