The Best Growth Is Still Overseas

11/4/2013


Economic-growth expectations for the largest emerging markets have declined over the last six months, while targets for most developed economies have either risen or remained steady. But don't be fooled by the near-term trend. Emerging markets still provide excellent growth opportunities.

Last year emerging and developing economies accounted for 49.6% of the world's economic activity, up from 43.9% five years ago and 38.2% a decade ago. That percentage has risen steadily over the last 30 years. According to the International Monetary Fund, emerging and developing markets will outstrip developed markets for the first time this year and rise to 54% of economic activity by 2018.

The Blue Chip Economic Indicators consensus calls for the U.S. economy to expand 2.6% next year adjusted for inflation, better than the United Kingdom's 2.1%, Japan's 1.7%, and the eurozone's 1.0%. The eurozone, consisting of 17 mostly Western European countries that use the euro, is roughly the size of the U.S. economy. Japan and the U.K. (not a part of the eurozone) are the next-largest developed economies.

In contrast, India is still expected to double U.S. economic growth next year with 5.5% expansion, while China's 7.4% is nearly triple the U.S. rate. Brazil and Russia face more near-term speed bumps but seem likely to grow faster than the U.S. and Western Europe.

12 LARGEST ECONOMIES
Emerging markets in bold.
Country
GDP
($Trillions)
% Of
World
United States
15.94
18.8
China
12.61
14.8
India
4.76
5.6
Japan
4.70
5.5
Germany
3.25
3.8
Russia
2.56
3.0
Brazil
2.39
2.8
United Kingdom
2.38
2.8
France
2.29
2.7
Italy
1.86
2.2
Mexico
1.79
2.1
Korea
1.64
1.9
Source: CIA World Factbook.

In 2012, four emerging markets (China, India, Brazil, and Russia) were among the seven largest country economies, with China and India ranked two and three, respectively. Ten years ago, only China and India were among the top 7. Ten years before that, only China qualified.

These numbers inspire at least three conclusions:

• The largest mature markets are expected to see modest economic expansion going forward, and well-managed companies without emerging-markets exposure should still be able to grow sales and profits. So don't panic if you own stock in a company that doesn't operate in China. However …

• The rest of the world should continue to grow substantially faster than advanced economies, expanding its share of the world GDP. Over the last 15 years, the six largest developed-country economies have managed annualized GDP growth of 1.4%, slightly below the 1.6% growth expected over the next six years. IMF estimates suggest the U.S. and Japanese economies will accelerate their growth in coming years. The biggest European economies aren't expected to match long-term historical growth rates, but should pick up from the depressed pace of recent years.

• Last year, China accounted for 18% of U.S. imports. China's economy is projected to grow at an annualized rate of 7.1% through 2018, more than twice the pace of U.S. growth. If the IMF's estimates prove accurate, China will become the world's largest economy in 2019.

In the table below we present eight A-rated stocks that generate at least 20% of their revenue outside of the U.S. and depend heavily on foreign operations for growth. Two are reviewed below:

With an initial investment of $1.6 million, Aflac ($67; AFL) pushed into Japan in 1974 to become the second foreign company to sell licensed insurance products there. Today, the company insures one in four households in Japan, which accounts for about 80% of Aflac's sales, up from 70% in 2008. Japan's share of revenue continues to rise, even as the yen remains weak against the U.S. dollar.

In the September quarter, Aflac reported operating earnings of $1.47 per share, down 17% — 5% excluding currency fluctuations — and a penny below the consensus. Revenue declined 14% to $5.89 billion, roughly in line with analysts' expectations. Management sees December-quarter earnings per share of $1.38 to $1.43, versus the consensus of $1.41. Aflac, which raised its dividend 6% in October and now yields 2.2%, is a Buy and a Long-Term Buy.


Celgene's ($155; CELG) international presence spans more than 70 counties, including Canada, Australia, Japan, China, and Brazil. In a departure from recent years, the U.S. has driven growth so far in 2013. However, a rich pipeline is poised to spur more growth in overseas markets. In August, European regulators cleared Imnovid (called Pomalyst in the U.S.) for multiple myeloma patients who have not experienced relief from two prior drug therapies. Celgene seeks to expand usage of Abraxane, a medication for lung and breast cancer, to fight metastatic pancreatic cancer. Separately, a late-stage trial for apremilast found the pill effective for treating psoriatic arthritis; Celgene projects annual sales of $1.5 billion by 2017.

In the September quarter, Celgene's per-share profits rose 21% to $1.56 excluding special items, exceeding the consensus by $0.02. Revenue surged 18% to $1.67 billion, also ahead of the consensus. Sales of Revlimid, an oral treatment for multiple myeloma, grew 12% to $1.09 billion, while Abraxane surged 60% to $170 million. Management's updated guidance implies December-quarter earnings below the consensus at the time of the announcement. Celgene remains a Buy and a Long-Term Buy.

STOCKS LEVERAGED TO FOREIGN GROWTH
All of the eight A-rated stocks below have seen foreign sales grow faster than U.S. sales over the last one and five years. Companies recommended for purchase are presented in bold.
--------- Foreign Sales ---------
----------- U.S. Sales -----------
Company (Price; Ticker)
Last
Fiscal
Year
($Bil.)
1-Year
Growth
(%)

5-Year
Growth
(Annual.)
(%)

Last
Fiscal
Year
($Bil.)
1-Year
Growth
(%)
5-Year
Growth
(Annual.)
(%)
Foreign
Sales
As %
Of Total
Biggest Foreign
Market
-- (% Of Revenue) --
Industry
Aflac ($67; AFL)
20.1
9
13
5.6
5
5
78
Japan
(78)
Life & Health
Insurance
Boeing ($130; BA)
44.5
30
10
37.2
8
(1)
54
Europe
(22)
Aerospace
& Defense
Celgene ($155; CELG)
2.3
18
63
3.2
11
21
42
Europe
(35)
Biotechnology
DirecTV ($63; DTV)
6.1
23
31
23.7
6
9
20
Brazil
(12)
Cable TV
Goldman Sachs
($162; GS)
14.0
28
(9)
27.2
5
(16)
34
EMEA *
(21)
Diversified
Fin'l Svcs.
MasterCard
($732; MA)
4.5
11
17
2.9
8
7
61
NA
Data
Processing
St. Jude Medical
($58; STJ)
2.9
(2)
12
2.6
(2)
4
53
Europe
(26)
Health Care
Equipment
Visa ($204; V)
4.7
16
16
5.7
11
12
45
NA
Data
Processing
NA Not available.     * Europe, Middle East, and Africa.

A foreign fund perspective

Right now as a general rule, we recommend you invest 15% to 20% of your mutual-fund portfolio in international stocks. While shares of U.S.-based multinational companies offer overseas exposure, true foreign stocks are less correlated to the U.S. market. Moreover, foreign stock funds favor different industries than their U.S. counterparts, providing another type of diversification benefit. Most foreign funds carry greater exposure to "old world" sectors such as materials and telecom services, while U.S. funds favor technology and health care. Below we review two top picks.

Artisan International ($30; ARTIX) ranks among the top 12% of foreign large-cap blend funds for three- , five- , and 10-year performance. On Sept. 30 the fund had 74 holdings with an average market capitalization of $66 billion. Roughly two-thirds of the fund was invested in Europe. Consumer staples represented nearly 23% of stocks, followed by financials at 19%. The fund scores better than 97% of its peers in our fund-ranking system. Up 21% so far in 2013, Artisan International requires a $1,000 minimum initial investment.


Wasatch International Growth ($29; WAIGX) invests mostly in small and midcap companies expected to benefit from sustained revenue and earnings growth. On June 30, the market capitalization of the average stock in the portfolio was about $3 billion. The fund, which holds nearly 70 stocks, favors consumer discretionary (25% of stocks), technology (19%), and consumer staples (13%). The largest country bet is Japan at 25%, and 43% of the stocks are Asian. Wasatch International earns a fund score of 94 and ranks among the top 7% of its peers for three- and five-year returns. The fund, which requires a $2,000 minimum initial investment, is up 24% so far in 2013.


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