Embrace the global economy

April 10, 2012 Categories: Portfolio Corner
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Whether you fully understand the ongoing drama of the European Union or not, one thing is certain, the news sounds depressing. The Europeans have dug themselves a financial hole, and it will take years to dig out. Many of your clients may see this as a warning signal to avoid Europe at all costs. It is not a significant stretch for nervous investors to extend this argument to all investments outside the U.S. As comforting as that may seem for some, it may be a short-sighted view with little investment merit.

How do you convince your skeptical clients of this? Try this angle…

The 21st century economy is all about global opportunities and growth. Anyone looking for validation of this need look no further than our own stock market. Nine of the ten largest U.S. companies in the Russell 1000 Index derive significant portions of their revenue outside the United States. On average, more of their revenues come from outside the U.S. than within.

These market stalwarts have positioned their future (and their stockholders’ investment futures) on the growth of the global economy. While short-term gyrations of the U.S. market will influence day to day stock prices, long-term financial and investment success may be tied to the growth opportunities of the global economy.

Geographic revenue breakdown for 10 largest U.S. stocks

Source for Revenue: Factiva, Company Annual Reports. Source for Top 10 list: Russell 1000® Index, as of Feb 29, 2012

Not an isolated U.S. phenomenon

Moving across the Atlantic, the European landscape looks very similar. In fact, the percentage of revenue generated by European companies outside their home country is even greater.1 Just like their U.S. counterparts, European stocks represent an investment in the global economy. Short-term stock fluctuations will be impacted by local market moves, but long-term success will be tied to their ability to generate global revenues and profits.

In today’s economy it is not practical, and maybe not even possible, to “protect” one’s portfolio from European bad news. U.S. corporations generate significant revenues from Europe. Apple, which is now the largest company (in market capitalization) in the U.S. stock market, generates 25% of revenues from Europe.2 Leading European companies tend to generate even larger percentages of revenue outside their domestic borders. Domestic limitations are disappearing in today’s economies, just as they should in today’s portfolios.

So what should investors be considering?

  1. Embrace globalization, do not hide from it. Many great companies find growth opportunities regardless of political borders.
  2. Reframe the focus of decision making. Portfolio decisions should not be U.S. vs. Europe, or U.S. vs. international.  Decisions should be based on identifying the best investments available, regardless of location.
  3. Hunt for bargains as one does in every other aspect of life. At this junction, much of the pain in Europe has been experienced.  Many of top European based corporations are trading at significant discounts to historical valuations.3 Investors need to identify opportunities and take advantage of discounted prices to buy great companies in Europe, the U.S. and beyond.

The European Union has its issues. They are not going to clear up overnight.  However, investors should not turn that into an excuse to turn inwards. Investors may benefit from following the lead of the U.S. companies they so often admire, looking global for growth opportunities.

1 Source: Bloomberg

2 Apple Inc Form 10-K Annual Report, fiscal year ended September 24, 2011

3 Current and historical price to earnings, price to cash flow, and price to sales for non-U.S. countries included in the Russell Developed ex-U.S. Index

Russell 1000® Index measures the performance of the 1,000 largest companies in the Russell 3000® Index, representative of the U.S. large capitalization securities market.

Indexes are unmanaged and cannot be invested in directly. Returns represent past performance, are not a guarantee of future performance, and are not indicative of any specific investment.

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