Saturday, February 01, 2003

Cheap ADRs

A valuation gap still exists between U.S. and non-U.S stocks. Relative to ten years ago, for example, the S&P 500 's price has appreciated 92% versus 21% for Morgan Stanley Capital International's EAFE index of stocks from developed economies in Europe, Australasia and the Far East.

Could that gap close? As the euro's recent rise might suggest, there's evidence of a growing appetite for non-U.S. financial assets. And it 's not hard to argue that U.S. stocks have plenty of room to fall. Based on reported earnings, the S&P 500 now has a trailing 12-month price-to-earnings ratio (P/E) of 29. In early 1995, as the last bull market began its climb, that ratio stood at 16. Hardcore bears say that even the multiple from 1995 looks too rich, arguing that down markets usually don't grind to a halt until earnings multiples bottom out in the single digits.

The bears could always be wrong, but it still may be prudent to make a couple of bets on non-U.S. stocks. For U.S. investors, American Depositary Receipts (ADRs) are the easiest way to do so.

Listed on American exchanges, ADRs are certificates issued by U.S. banks acting as the depositary for shares in the non-U.S. companies. They provide American investors with the same economic benefits as regular shareholders, including dividends.

Example: Cadbury Schweppes. At a recent $23, ADRs for the London-based beverage and candy concern trade at just nine times trailing earnings per share. That looks very reasonable next to PepsiCo's trailing multiple of 23. Coca-Cola sells for 24 times trailing profits. And compared to its U.S. rivals, Cadbury shares are also cheaper relative to book value and sales.

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