It’s a good idea to keep some international exposure in your stock portfolio. Doing so adds diversification and can open you up to some exciting investment opportunities. However, you don’t necessarily need to buy the stocks of foreign companies.
In this episode of Industry Focus: Financials, host Michael Douglass and financials specialist Matt Frankel discuss how you can get international stock exposure with companies you already know.
A full transcript follows the video.
This video was recorded on May 14, 2018.
Michael Douglass: Welcome to Industry Focus, the podcast that dives into a different sector of the stock market every day.It’sMonday, May 14th, and we’re kicking off our International Theme Week by talking about, well, international in financials.
Folks, Industry Focus is a U.S.-based podcast talking about the U.S. stock market, sowe spend most of our time talking about, well,domestic companies. But there’s a whole world of stocks out there, andno portfolio is truly diversified without international exposure. So,this week, we decided to change things up by focusing on international stories.Everyhost is interpreting this a little bit differently. The way we’ve chosen to interpret this on the Financials show,for the inaugural show of this theme week, is to talk about U.S.stocks with significant international exposure. Other folks will be talking about companies that are actually based in foreign countries. We like to take that motley approach tohow we interpret the theme week.
We’re going to start off with a general discussion on international investing, justintroducing the topic, thenwe’ll talk about some of those specific companies after the break. First off, then,let’s talk about international investing andthe different ways you can invest.
Matt Frankel: Sure. Themost obvious way is to just buy a stock that is a company that’s outside of the U.S. But that’s not for everybody. We’ll get into the reasons in a minute. In addition to that, if you just want to set it on autopilot, you can use an ETF or mutual fund to invest in foreign companies. Like Michael said, the other way is to invest in U.S. stocks, or stocks with substantial operations in the U.S. but that also have a lot of foreign exposure as well.
Douglass:Yeah. One of the key things to think about when considering how to invest yourportfolio, the asset allocation piece of this — like, how much do you put in international stocks — isalso thinking about the different risk types here. A company based in London is very different from a company that’s based in,let’s say, S茫o Paulo. You have to think about the different types of risk. We’ll get more into risk in a little bit.
But,one of the things when thinking about that asset allocation is also consideringthe different types of risk that you’re taking on. Is it political risk? Is it geographic risk? Is it the fact thatcompanies are highly correlated with certain commodity prices? That’s a thing you have to think about particularly with international stocks,but really in general about your portfolio.
All of that being said, Matt, how do you tend to think about asset allocation to international companies, or, let’s say, international exposure in general in your portfolio?
Frankel:It’shard to tell for sure. I like to keep it between 10-15% of my portfolio, international exposure. Having said that, it’s really difficult to get an exact percentage. For example, I own about 30 different stocks. It’sreally, really tough to figure out theexact percentage of each one’s revenue that comes from overseas and to constantly keep that between a 10-15% window. Havingsaid that, that’s kind of what I shoot for.
We’ll go through a few in a second, but a lot of the stocks that I own in my portfolio have substantial operations overseas. And generally,doing the quick math in my head before this episode, I am within that 10-15% range. That’s apretty good range to shoot for to hedge against currency fluctuations, adda little element of diversification to your portfolio, and things like that.
Douglass:Yeah. Anda lot of what I think matters in terms of thinking about this is your own circle of competence. Ifyou have traveled to a lot of countries, perhaps you’ve done business in other countries, you’llhave a better understanding of what the puts and takes are asyou’re thinking about how to allocate your portfolio there.
As well, just consider your own risk appetite, in general. If you think about it for a minute, let’s say, an emerging economy. You’llsee this in parts of Southeast Asia, sub-Saharan Africa. Those aregoing to be very volatile areas, probably. If you are OK with volatility,there may be an opportunity there, depending on what you knowand how well you invest. But the flip side of that is,you may also see really enormous swings. That’s just something you have to consult your own risk toleranceand your own willingness to accept potential losses before really figuring out where and how and how muchto invest internationally.
Now, I’ve talked a lot about some of the drawbacks, and we’ll get to thosea bit more formally in a minute. But let’s turn to the advantages of international investing.I think one of the key core ones is the other side of that volatility,which is fast-growing, exciting investments. There arereal opportunities with countries that are growing their GDP at 5%, 7%, 10% annually. Here in the U.S., it’s a good year if we get to 2%. So, you really have to consider what the opportunity might be for a well-placed company in a fast-growing economy.
Frankel:Right. Therehave been periods in the past 20 years when you could have owned a China ETF for a 10-year period andquadrupled your money. These are investments that can be growing faster. Evenwhat we think of as boring companies like telecoms, insome of these developing nations, they can be growing at 10-15% a year. So, these are opportunities that you don’t have domestically, just because of the maturity of our economy.
Douglass:Right. Oneof the other things to consider is, in general, diversification. Whenyou think aboutyour portfolio in general, think about correlation. Howmuch are you tied to particular trends orparticular commodity prices, as I mentioned earlier? Well, one of the things that aprimarily domestic stock portfolio is highly correlated to is, well, U.S.economic performance. And, to some extent, the rest of the world is, too. But, there areopportunities to diversify your holdings to make sure that youhave these opportunities to benefit when other countries areprospering in ways that the United States isn’t. That’s a really important thing to consider here.
Frankel:Yeah, it’skind of the same thought process as when you put all of your portfolio in bank stocks. We love bank stocks. We talk about them every Monday.
Douglass:[laughs]We sure do!
Frankel:Butwe’re not going to put all of our money in them. The same kind of concept applies here. We love America,we think American business is going to do great over the next 50 or 100 years. Butthat doesn’t mean you want to put all of your money into America’seconomy. If something like 2008 happens,a lot of thestock markets around the world did a lot better than ours didin 2008 because of, obviously, what happened to the U.S. banking system. That’s another reason you don’t want to be 100% in banks.
Frankel:But,my point is,when a bad situation happens,you don’t want to be completely levered to that one country’s economy. Thesame thing is true for other countries, as well. If there’s, say, a U.K.-specific incident that happens,you don’t want to be too levered to that market. Itkind of balances out your geographic risk, byinvesting in foreign companies.
Douglass:Yes. And I would say, more broadly, when I think about stocks, I’m usually considering their geographic risk. If one company does all of its business in Californiaor Virginia or South Carolinaor wherever, that’s, to some extent, a concern,because a change in the regulatory environment in that one state can have a really outsized impact,or a natural disaster, or who knows? In the same way,being levered all to one country, again,there’s a bit more spread-out of risk because we have 50 states in United States, but there’s still some of that risk.
Oneof the other things to consider with international stocks,it can be both an advantage or a disadvantage, depending, iscurrency headwinds or tailwinds. U.S.-basedcompanies operate on the dollar. When they have significant international operations, depending on whether the dollar is weak or strong,that can be a benefit or a drawback to their reported earnings. Now,it’s not something we really consider a lot in terms oflooking at investments because,let’s face it, if the underlying business is strong, thencurrency headwinds or tailwinds are just athing that you notice. But it’s certainly something that you need to be aware ofbefore considering investing in international stocks.
With that,let’s turn to some of the drawbacks. We’ve highlighted some of these already, but we’llgo through and talk about them a little bit more. First one,obviously, political risk.
Frankel:Yeah. Notevery country is as stable as the U.S. Alot of people think our political climate is kind of shaky. Goto one of these emerging nations and see how uncertain things are in emerging markets. Venezuela comes to mind as a really big example right now, withthe hyperinflation going on there. Things like that. If apolitical regime is overthrown,that could have a huge effect on investments in that country. Hyperinflation is a big risk in a lot of these emerging nations that don’t have currencies that are quite as stable as the U.S. dollar. In short,be aware that not every country is as developed as America, andthat’s why they call some of these emerging markets.
Douglass:Right. And, of course, we’ve already talked about volatility, soI’ll skate by that one, but I just wanted to reemphasize it one more time. Volatility isdefinitely a bigger concern with emerging markets inparticular, in part because the expectation is,if acountry has been growing its GDP at,I’m making this up, 7% annually, then, well, if they report 5% annual growth for a year,that can really shake a lot of investor confidence. Now,that may not necessarily change your underlying thesis aroundthe country and around the specific companies that you might be investing in in that country,but you just need to be aware that things are probably going to be more volatilebecause there’s more expectation for growth built in –just like when you invest in growth stocks in general.
Theother thing to point out here is that there’slimited information available on manyforeign companies. Basically, there are different regulatory requirementscountry by country, and that can make a really big differencein terms of what story you learn about a company.
Frankel:Yeah. Not every country has the SEC looking out for investors. Notevery company around the world is required to file a 10-Q every quarter. There’slimited informationavailable on companies, especially in the emerging markets. That makes them kind of tough to research and value properly, especially for people listening who arelooking at some of the metrics and consider themselvesvalue investors. It can be much more difficultto value companies from emerging markets especially, and even developed countries around the world thatdon’t have the same regulatory requirements that we do here.
Douglass:Right. With that, we’re going to turn and talk about five specific companies that are U.S.-based but havesignificant international exposure, right after the break.
Alright, so,we’ve talked a lot about international investing. Time to talk throughsome companies with significant internationalexposure. First one, Matt,one of your favorites and one that, we joked before the episode, you always look for an opportunity to bring up, TD Bank (NYSE:TD).
Frankel:It’s just a great bank stock. Ignore theinternational exposure, it’s still a great bank stock. TD, if you’re not familiar, Toronto Dominion Bank is the official name. If you live on the East Coast, you’ve probably seen a TD Bank branch, but they’re not throughout the United States yet,which is one of the big reasons I like the stock.
TD Bank isone of the biggest banks in Canada. It’s the sixth-biggest bank inNorth America. They’re based in Canada — which brings up, out of the five stocks we’regoing to talk about, this is the only one that’s not based in the U.S. Currency headwinds aremore of a factor here. Specifically, I get paid dividends in Canadian dollarsfrom TD Bank. So, as the Canadian dollar has weakened,it looks like my dividend is going down, butthat’s really not the case.
Anyway. TD Bank has a lot of room to growin the United States, hasa very nice revenue divisionbetween Canada and the U.S. They have some growth catalysts. Like I said, they’re only in pretty much the East Coast right now, and they’ve done a great job of growing both organically and through acquisitions. Theyrecently acquiredTarget’s credit card portfolio,just to name a couple. Scottradeisthe other one I was going to bring up. They justreally have a long avenue for growth for such a big bank.
Douglass:Yeah. There’sa lot of reasons to like TD Bank. And it’s the only one on our list that’s actually not a U.S.-based company. Let’sturn to Aflac (NYSE:AFL).
Frankel:This is one that people in America, especially, are usually surprised to find out is notpredominantly an American company. In fact,America is a small portion of Aflac’s revenue. They’re big in Japan. Aflac is actually the No. 1 health and cancer insurer in Japan. They’re a big, big company over there. We know them for their accident insurance,short-term disability insurance, things like that.Aflac, great example of, if you want exposure to another developed market –Japan, in this case. Aflac is a dividend aristocrat. They’ve paid dividends for over 30 yearsin a row. They have a very low payout ratio,really good business fundamentals, and like I said, really great developed market exposure.
Douglass:Yeah. That’sone of the things here to really highlight, I think –Japan being their big market. Thatturns on its head the thing that we usually tend to seeacross a lot of, not just financials but a lot of sectors, where the U.S. is the big market, and alot of others are the second-biggest or the third-biggest.
Frankel:Just to name one other statistic I forgot to mention, one in four Japanese households is an Aflac customer.
Douglass:Wow,talk about market share. That’spretty impressive. Let’s turn to Welltower (NYSE:WELL). This is ticker symbol WELL. Folkswho have been watching the company for a long time know that it used to be HCN, but they’ve changed it now to WELL, for Welltower,I assume. This is a healthcare REIT that’sreally strongly diversified both in the United States and outside of it.
Frankel:Yeah. Ifyou’ve been following them for a while,they changed their name to Welltower. Their official name was Health Care REIT. Ittells the story, but that’s kind of a boring name.
Douglass:[laughs]Right. Notthe best headline, maybe.
Frankel:[laughs]No. If you’re not familiar with them, they’re, obviously, a healthcare REIT, but they invest mainly in senior-specific properties: senior housing,long-term care, assisted living, things like that. They operateprimarily in the U.S.,but they have a big presence in Canada and the U.K. Asof this most recent quarter, they have about 150 Canadian properties and about 120 in the U.K. So,a pretty big chunk of their revenue comes from overseas. They’resusceptible to currency headwinds a little bit because of it, butthat’s actually helped them out at points in the past.These are kind of their two biggrowth markets. The senior housing industry is notas evolved over there as it is here.
So, the general theme so far is,we like stocks whose foreign exposureis a really nice complement to their U.S. exposure. They canleverage their brand name over in foreign markets. It adds a new growth avenue where the market might be gettinga little saturated here. Rightnow, for example, there’s big oversupply worriesin the senior housing market. Not the case in some of theseforeign markets that Welltower invests in.
Douglass:Right. That’sa good point. Matt and I are both … I wouldn’t call us really conservative investors, but I would say, maybe we’re not quite as high on the yield curve asa lot of other people. We definitely tend toward businesses with heavy U.S. presences,even if it’s maybe not their majority,just because this is a large, rich, attractive market.
Let’s turn to another REIT –actually, our next two are both REITs, as well. Perhapsthat’s not surprising, because there’s a lot of geographic dispersion in real estate.Public Storage (NYSE:PSA), ticker symbol PSA. This is a self-storage REIT. Self-storagetends to be a really attractive business model, both because the relationships tend to be sticky — that is, once you put your stuff in a storage container,you tend to keep it there more or less indefinitely,and they’re able to do very small increases in price every year or two tocontinue to ramp up their net operating income. And,Public Storage has about a 92%occupancy rate. Most self-storage companies can break even at40% or less. So, it’s a pretty attractive business model.
Plus,it has a lot of exposure in non-U.S. markets. Specifically,Public Storage only owns one self-storage facility outside the U.S. It’s in England. They have a 49% interest in Shurgard Europe, which has 222 self-storage facilities. So,they’re able to leverage that with market share there in Europe. Anyother thoughts on them, Matt?
Frankel:Yeah. This isanother issue, like I was mentioning with Welltower,some of the businesses aren’t as evolvedoverseas yet. In Public Storage’s case, self-storage is a small, small business over in Europe still. I want to say, I read right before this episode,there are about 2,000 self-storage facilitiestotal across Europe. Just to put that in perspective,Public Storage has more than that in the U.S. alone. So,it’s still a very small market.
AndPublic Storage just recently got into the development side of the game. They’vegenerally grown through acquisitions and they’re really ramping up their development program. Thatopens up a lot of possibilities overseas,if they start to really develop the Shurgard brand over there.
Douglass:Right. It’sdefinitely a potentially attractive company. It’s kind of the behemoth in self-storage. Asa result, their growth tends to be a little bit slowercompared to some of the smaller folks like Extra Space Storage. They boosted revenue 2% year over yearlast quarter. Funds from operations per share, or FFO per share, which is the typical REIT number, was about 1.3% growth year over year. So,you do tend to get some of that lower growth,but they could also be in a bit of a growth trough, which,once they’ve built some of thisdevelopment into their pipeline and are lapping through that, there might be some real opportunities for them. And, again, there’s a lot of optionality internationally, so that’s a really good thing for them.
Finally, let’s talk about Prologis (NYSE:PLD),ticker symbol PLD. This one is an industrials RIET, primarily logistics centers. 70% of the net operating income is in the U.S. Only 55% of their square footage is. They havereally heavy diversification across Europe, which is their next-largest market,Canada, Mexico, Brazil, and thena lot of Southeast Asia.Thenice thing there is, sure, most of yourinvestment in the company is based off these large, mature markets, but there’ssignificant optionality in some of these other markets,which are commandingmuch lower rents, but long-term, as they continue to expand and demand increases and etc., there area lot of opportunities for that company to grow.
Plus,the majority of their asset management and third-party transaction fees are from outside the U.S.,52% vs. 48%. Not a huge majority,but that means they’re active in the disposition market there, and they’re seeingopportunities, which, hopefully, they can thenleverage that deep knowledge intobuilding their square footage footprint in these outside-of-the-U.S. markets.
Frankel:Yeah. I always call Prologis the e-commerce play that nobody’s talking about.Amazon’s theirbiggest tenant, not surprisingly. The statistic that stands out to me the most about Prologis is thatonline or e-commerce sales requires three times the distribution center space ofbrick and mortar retailers. So, as we gradually transition to more and more e-commerce, it’s a very positive catalyst for Prologis long-term. LikeMichael said, most of their revenue is still domestic, butthat could very easily change going forward. They’re in 19 countries right now, and some of themhave the potential to become very big markets for the company.
Douglass:Right. Now,it’s worth noting here,Prologis iscurrently in the process of acquiringDCT Industrial,which would increase the percentage of their square footage that’s in the United States. But, there’sstill plenty of optionality internationally. Andfrankly, you look at corebusiness metrics, they boosted revenue 10% year over year last quarter. Their corefunds from operations were up 27%. Guidancefor the year is for core FFO to get to nearly $3 a share from $2.81 last year. So,a lot of reasons to like the company, despite the fact that it’s already pretty darn big. That’sone of the things that I like about bothPrologis and Welltower. They’re big, andreally do have quite a bit of growth ramp potential, which means that you get the stability of a large company while also gettingsome of the potential benefits of a growth company. Again,you’re never going to get the kind of growth that you’ll get from some small-cap tech stock. But,hopefully, that optionality gives them a nice growth ramp to churn outsignificant growth and dividends long-term for shareholders.
Frankel:Yeah,definitely. These REITstend to be low volatility but cansurprise you with how much growth they have over the long-term. Public Storage, for example, has handily beaten the S&P over the past three decades.I think it’s returned something like 5X the S&P’sreturn over 30 years,and with much lower volatility, much more stable of a business, thansome of these smaller companies that can producecomparable returns.
Douglass:Yes. Because of ourepisode last week about dividend yield traps,lest you think that meanswe don’t like dividend-yielding stocks,Matt and I both love REITs,and we both love talking about REITs. Not all REITs. There are some ones that are really kind of terrible. Butthere are a lot of equity REITsthat are really very attractive, and we both tend to invest,or at least tend to look pretty hard at REITs when we’re investing.
Folks, that’s it for this week’s Financials show. Questions, comments, you can always reach us at firstname.lastname@example.org. As always, people on the program may have interests in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so, don’t buy or sell stocks based solely on what you hear. This show is produced by Austin Morgan. For Matt Frankel, I’m Michael Douglass. Thanks for listening and Fool on!