ADR is an acronym for American Depositary Receipt, though knowing this hardly explains what the heck ADRs are and how exactly they work.
What is ADR stock?
ADRs are shares of non-American public companies that are purchased in US dollars and on American stock exchanges. Imagine you’re an American who wants to invest in Alibaba (symbol: BABA), the gigantic Chinese retailer that sells anything you could possibly imagine including a shocking variety of professional liposuction machines that we implore you not to use on a spouse or pet unless you’re a doctor. Were it not for ADRs, if you wanted Alibaba stock, you might have to fly to Shanghai, exchange a suitcase full of dollars for yuan, and using awkward pantomimes, locate a broker to sell you some BABA. ADRs like Alibaba’s (the current price of which can be checked at this site) can be purchased from the comfort of your sofa in the same way you might buy Apple or Nike stock. ADRs are not a uniquely American concept; depositary receipts (DRs) exist all over the world and buying any kind of DR simply means that you are buying a position in a company in a currency foreign to the primary market on which the company trades.
One big warning you should consider before we go any further: stock picking is never, ever a good idea. Tons of studies show that even professionals paid to pick stocks fail to outperform the market as a whole over the long term and ADRs may be even more volatile than domestic stocks owing to currency differences. For this reason, many of the greatest investing minds in history like the father of Modern Portfolio Theory Harry Markowitz, whose contributions are celebrated in this article, advise that a highly diversified portfolio maximizes investment upside and minimizes potential downside over the long term.
Still set on investing in Alibaba? Why not instead educate yourself on low-fee ETFs like these listed herethat will provide you exposure to dozens, if not hundreds of different Chinese companies for one price? Don’t consider this an investment tip (we never provide those here) but rather a philosophical question to consider. And always remember that any stock market investment, whether foreign or domestic, is speculative and there’s always a chance you lose a good bit or all of your investment.
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How ADR stocks differs from other stocks
There’s one obvious difference between ADRs and domestic stocks; one company is based in the United States and listed on one of its stock exchanges while the other is based and listed somewhere else. But apart from that, the primary thing that separates an ADR from other stocks is the underlying process that happens in order to buy an ADR, though as a buyer you probably won’t even notice any difference at all.
There are a few more players involved in buying an ADR versus buying a regular stock. If you buy, for instance, a share of Apple, you’d probably just go to an online broker dealer who would quote you a market price and you’d buy the stock for right around that price. Easy peasy. But when you buy an ADR, you are purchasing a stake in a company that has been purchased by a domestic bank that specializes in these transactions, called a custodian bank. The underlying shares of the company, however, remain in local currency and in a bank in the same country as the company, called a foreign depositary bank. ADRs will rise and fall in price not only according to the foreign stock price, but also how the local currency is faring against the dollar. So regardless of the stock’s performance in its home market, a strong dollar, or more likely, a cratering foreign currency, could take a pretty nasty bite of your investment. A weakening dollar or a strengthening foreign currency? Just the opposite will occur.
When it comes to taxes, the IRS doesn’t differentiate between capital gains on domestic stocks and those on ADRs. But what can be a bit more complicated is that foreign countries may levy taxes in ways that you perhaps never imagined. For instance, some countries will withhold taxes of up to 20% on dividends so you’ll have to file for a deduction on your income taxes in order to avoid being double taxed. If your head is spinning at the complexity of such a maneuver, ADR investing might be a bit too complicated for those accustomed to filing income tax returns without the help of an accountant.
How to tell if a stock is ADR
It’s harder than you might imagine determining if a stock is an ADR or not. Some will say “ADR” right next to their ticker symbol, but a frustratingly large number of others will not. Everybody knows that Honda is a Japanese car company, but if all you had to go on was this Yahoo Finance stock quote, you might assume Honda’s headquarters were located in Tacoma, not Tokyo and that Honda was as American as these pictures of obscenely large fast food hamburgers. For this reason, if you have any doubt whatsoever, you can check either this website from JPMorgan or this one from BNY Mellon, both of which feature exhaustive lists of every ADR traded on the US stock market. If you plug in the company name or symbol and it’s not on there, it’s not an ADR.
This site features a pretty good roundup of some of the largest foreign companies (with market capitalization of over $50 billion) listed on US stock market. It’s a good chance that if you’re looking to buy an ADR, it will make an appearance there. Think Budweiser is an American beer? Well, it’s brewed here, but in 2008, Anheuser Busch was acquired by InBev, to form Anheuser Busch Inbev SA (symbol: ADR), headquartered in Leuven, Belgium. Have asthma and treasure your Advair inhaler so much you want to invest in the company that keeps you breathing? You’d want to buy the ADR for GlaxoSmithKline plc, a British pharmaceutical manufacturer.
How to buy ADR stocks
If you’re intent on ignoring out science-based advice about portfolio diversification found in this excellent guide here and are set to acquire an individual ADR, you have a few choices.
The absolute easiest, cheapest way to buy ADRs is through an online discount brokerage. Accounts can be opened in ten minutes if you have a social security or social insurance number, a home address, and an employer’s address (freelancers fret not—it’s totally AOK if your office happens to be five feet from your bed.) Account minimums vary considerably in the minimum investment they require to open an account. They also normally charge a fee for each stock you trade. Most will assess a flat per-trade commission fee for any stock purchase, big or small, that generally range from $5-$10 per online trade. If you have a small amount of money to invest, look out for a provider that offers a low minimum investment to open an account. Some, even offer no minimum investment and in the last decade, a few investment providers have started offering commission-free trading, so every cent you pay goes directly into your ADR investment, not into the brokerage’s coffers.
Human stock broker
Most brokerages do employ humans to execute ADR purchases, but they’ll charge a lot more if you need to use one, so do your best to crack the system without the assistance of another warm body. If you’re nervous, you’ll find scads of videos for buying stocks on all the major online brokerages on YouTube.
If you have a financial advisor, you may choose to execute the trade through him or her. The best advisors are “fee-only,” meaning they’ll either charge you a flat fee or take a small percentage of the value of your portfolio every year and hopefully won’t nickel and dime you with inflated trading fees for the purchase of one ADR. Financial advisors are useful for providing you with an overall financial plan but you probably don’t need one to trade individual stocks.
In general, automated investing services (sometimes called roboadvisors) like yours truly will put together a diversified basket of ETFs for their clients based on their investment goals rather than individual stocks. So who knows—your Wealthsimple account may include ADRs among the hundreds of stocks held within your portfolio, but automated investing services aren’t generally the right place to go if you’re in the market for larger positions in individual ADRs like Alibaba or Honda.
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