Letting the Winners Run: Using ADRs to Deliver Your Active, International Exposure
Written by: John Lewis, Senior Portfolio Manager at Dorsey, Wright & Associates (A Nasdaq Company)
If you’re headed to Europe this summer, chances are good you’re going to see a nice boost to your budget due to the exchange rate. The current strength of the dollar has certainly been great for US tourists, as well as US-based companies who source goods overseas. But it hasn’t been such a windfall for international companies or their investors. As an advisor, that can present a tough challenge. Your clients need the international exposure, but the strong dollar limits the opportunity for return. The media isn’t helping either, making your clients wary about non-US investments. With China’s economic woes just the tip of the iceberg, it’s no wonder international stocks been out of favor for years.
Despite the obstacles, international stocks are a vital part of a strong, diversified portfolio. But how do you persuade your clients to take the leap? And even if they do, what’s the best way to go about adding non-US assets to a portfolio when you’re working with smaller clients for whom mutual funds aren’t the best option?
One approach that has been delivering positive results for more than a decade is to leverage the “smart” in smart beta—focusing on momentum and trend—while adding ADRs to the mix to include international stocks with lower transaction fees. The benefits are twofold. First, not only does smart beta offer your clients an alternative to passive index investing, but because it focuses on momentum and trends, it’s a powerful approach that “lets the winners run” while weeding out stocks that are losing momentum or beginning their downward descent. This helps minimize the increased risk that many investors have learned to associate with non-US markets. Second, leveraging ADRs not only opens the door to foreign stocks by eliminating international transaction fees, but because they’re denominated in US dollars, they actually increase in value as the strength of the dollar wanes.
But the dollar is strong…right? At the moment, yes. But just as it’s wise to look at momentum and trends in stocks, taking a close look at how the dollar is trending is important as well. This past January, the dollar index hit its highest point in a decade. It’s precisely why you got online and booked that trip to Italy. But the tide appears to be turning. Last week the dollar index fell to its weakest level since January 2015, and indicators are pointing to potential continued weakness. Historically, a falling US dollar tends to have a negative impact on domestic returns and a positive impact on non-US returns.
It’s easy to see that if this downward trend continues, now is an ideal time to invest in the “winners” overseas. It may not be ideal when you’re paying your tab for dinner in Rome, but it may be just the environment you’re looking for in your client’s portfolio.
The great news is that this approach isn’t limited to institutional and other larger investors. By utilizing ADRs, it opens the door to smaller retail accounts that would otherwise be restricted to mutual funds or domestic momentum portfolios. Plus, as long as the product is backed by a strong, disciplined momentum methodology, it can effectively cut out the losers—those international stocks that are trending downward— while building on the strength of the winners that are trending upward or continuing their strong momentum. Whether the dollar trends up or down in the coming months, this approach is a valuable alternative. It offers your clients international exposure without some of the increase in risk that can send their emotions reeling or, even worse, dissuade them completely from taking on international exposure.
To learn more about Smart Beta ETFs and the Dorsey Wright Relative Strength strategies, download the whitepaper Point & Figure Relative Strength Signals or contact Dorsey Wright. You can also listen to the Dorsey Wright weekly podcast here.
There are risks inherent in international investments, which may make such investments unsuitable for certain clients. These include, for example, economic, political, currency exchange, rate fluctuations, and limited availability of information on international securities. DWA, and its affiliates make no representation that the companies which issue securities which are the subject of their research reports are subject to, or in compliance with certain informational reporting requirements imposed by the Securities Exchange Act of 1934. The use of ADRs may be subject to foreign tax withholdings.
The relative strength strategy is not a guarantee. There may be times where all investments or asset classes are unfavorable and depreciate in value. Past performance is not indicative of future results. Potential for profits is accompanied by possibility of loss.
The information contained herein has been prepared without regard to any particular investor’s investment objectives, financial situation, and needs. Accordingly, investors should not act on any recommendation (express or implied) or information in this material without obtaining specific advice from their financial advisors and should not rely on information herein as the primary basis for their investment decisions.
Why Lasting Change Is Hard
Before we had any children, my wife and I lived in the heart of Dallas. One day, on our way back to our house, we were driving down Skillman Avenue when we were caught in a sudden torrential downpour.
The rain was coming down incredibly hard, which wouldn’t have been a problem if the storm drains were equipped to handle that much water. Instead, the road itself filled with water faster than we could have anticipated. Quickly, the water rose up the side of our car. Trying not to panic, we realized that we could not continue and would need to turn around and get to higher ground.
Water rising up the side of your car door is the kind of roadblock you might not expect to encounter, but when you do, it’s formidable. We couldn’t drive through it or even around it. We had to deal with it quickly or face serious consequences.
When we’re trying to implement change in our own lives, it’s important to identify and plan for common roadblocks to lasting change.
The first and, in my opinion, most important roadblock to lasting change is not addressing the real issue.
Let’s say you wake up in the middle of the night with a sore throat. You’re annoyed by feeling sick but your throat really hurts, so you get up and spray a little Chloraseptic in your mouth and drift off to sleep. When you wake up the next day, you still have a sore throat, so you pop in a cough drop and go about your day.
The change you’re making – using a numbing agent – might work if you’ve only got a cold, but if it’s strep throat, you’re not addressing the real problem. Only an antibiotic will cure what ails you, even if Chloraseptic will keep the pain at bay for a while.
Just like how more information is needed to diagnose your sore throat than one feeling, problems you encounter in your life or business require diagnostics, too. Figuring out the real problem – not just your most apparent needs – requires some introspection and a little bit of time.
Here are eight questions to ask when you need to discover the root cause, courtesy of MindTools.com:
- What do you see happening?
- What are the specific symptoms?
- What proof do you have that the problem exists?
- How long has the problem existed?
- What is the impact of the problem?
- What sequence of events leads to the problem?
- What conditions allow the problem to occur?
- What other problems surround the occurrence of the central problem?
Once you have your answers to these key questions, you can’t stop there. Your vantage point is skewed from your own perspective. You’re going to want to ask someone else to evaluate the problem at hand with the same questions and then compare your answers.
If you and all of the partners at your firm have similar answers, you’ll know you’re on the right track. If you wind up with wildly different ideas, I suggest seeking the advice of someone outside your organization. Fresh eyes can make all the difference in understanding a problem.
I often talk about being ‘too close’ to understand. You’ve probably heard the illustration about a group of people standing by an elephant with blindfolds on, trying to describe what they’re experiencing. Depending on what part of the elephant you’re next to, you’re going to have different observations.
But someone outside of that elephant’s cage can clearly identify the elephant.
The first key to making a lasting change is to make sure you’ve addressed the real problem and are looking for authentic change.
Next time, we’ll address the second major roadblock to creating last change.
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