Foreign stocks not meant for the long haul

Tim Mak

Being a stock market investor, it’s not a bad idea to treat all the public companies on earth as one big investment universe rather than fixate on the stocks from a single country.

But if one’s investment horizon is a long one, then one should probably ask this question: Which of the present market leaders in their industries (with returns on investment, or ROE’s, at least in the teens) will likely still be leaders in their industries 50 years from now?

The answer to this question may be surprising: Not many companies will pass muster under this stringent test.

I’ve read the annual reports and 10-Ks of more than 10,000 companies, but sad to say, only one-half of one percent are likely to stand a chance of meeting the criterion above.

And how is it possible to read that many financial publications in such a short time? The key is to quickly say “It’s not!” because the truth is, not many do.

One great Midwestern investor likes to say that it only takes him five seconds upon picking up an annual report to tell if the company is a bad one for the investor.

Surprisingly, of the few dozens of companies that are friendly to the stringent requirement mentioned above, all but two are U.S.-based. The two exceptions are from Europe, both British.

So it is not for the lack of trying to locate great foreign stocks, but it’s the general lack of overseas companies with a reasonably sustainable competitive advantage.

There are market leaders within their own industries in each country, and some may even have two-digit ROEs. But not many will live to see their competitive advantage extend outside their home market. This is because their current domestic competitive advantage is country-specific, having market protection from their governments, for example.

When these companies move overseas, some of their strengths may not be so easily scalable. Not only that, going overseas typically entails a reciprocal opening of their domestic market, which may likely weaken their pricing power, dampen their bottom line, and thereby lower their ROE at home.

And, like a great investor so aptly put it, ultimately, the one thing that makes an investor rich or poor, is the company’s ROE.

No matter how low the price-earnings ratio of a company, no matter how attractive the growth of the top line or bottom line of a company (even mediocre companies can achieve both with more equity), in the end, it’s the ROE that counts.

Out of every 200 companies, the typical investor only picks one. Therefore, great stock “pickers” shouldn’t be called such. Instead, they should be called great stock “avoiders.”

Tim Mak is a teaching fellow at the College of Business Administration and a columnist for the Summer Kent Stater. Contact him at [email protected].