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American Depositary Receipts - What should you know?

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Published: Thursday, December 8, 2011, 10:03 [IST]
 
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American Depositary Receipts - What should you know?

Whenever we listen to any business channel, we normally find analysts discussing the price fluctuation of American Depositary Receipts (ADRs) of Indian companies. Why they are bothered about ADR’s which trade in the US market? As a smart stock market investor, let’s try to figure out what’s so special about ADR’s and how to utilize this knowledge to maximize our profit in stock market.

What are ADRs?
ADRs are dollar denominated certificates (similar as stocks) which trade on American Stock Exchange but the company which they represent are not based in America. The company is a foreign corporation which is not listed on American Stock Exchanges. ADRs are issued by banks and are issued against shares of foreign company held by bank in overseas market. The foreign corporation is bound to provide correct financial information to the sponsor bank.

What are the types of ADRs?
There are basically three types of ADRs:

  • Level 1 – Most basic types of ADR and are used for gauzing interest for companies securities in American market. The company doesn’t qualify for an ADR and are not listed on the exchange. These ADRs trade mainly in OTC market.
  • Level 2 – These ADRs meet the regulatory requirement and are listed on the exchange. The listed company must provide financial information and quarterly statements to its shareholders as per American accounting standards.
  • Level 3 – This is ideal form of ADR and here foreign corporation can float IPO for its ADR in American market. Issuer can raise capital easily and becomes globally renowned. Reporting requirements are same as that for Level 2 ADRs.

What is the need of ADR?
ADRs were created because of the complexities involved in trading of shares in foreign market and the difficulties related to trading at different prices and currency values. ADR’s provides a means of global diversification for American investors who don’t want to participate directly in overseas market because of legal issues and risks. From the perspective of the foreign company which lists their ADR on American market, they get an easy access to foreign capital. It provides a shield against hostile bidders and makes the company famous in international market.

Why you should track it?
As a stock market investor you should be aware of the price movements of the ADR’s of Indian companies in US market. This strategy is more suitable for an investor who is having a short term investment perspective. Sudden price movements of the ADR’s should not be ignored and entry and exit strategy should be devised accordingly. ADR’s trade as stocks, so one can use both technical and fundamental analysis to analyze them.

Conclusion
From now onwards, try and make it a habit to browse through the ADR prices in the morning before market opens. As American market reach and knowledge is quite accurate, sudden price movements in ADRs gives clear indication that something good or bad is in the offing. Keeping a watch will definitely help you in taking informed decisions and will enhance your portfolio return.

InvestmentYogi

Topics: investment, ipo, stock
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