ADR Basics: Risks
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There are several factors that determine the value of the ADR beyond the performance of the company. Analyzing these foreign companies involves further scrutiny than merely looking at the fundamentals. Here are some other risks that investors should consider:
- Political Risk - Ask yourself if you think the government in the home country of the ADR is stable? For example, you might be wary of Russian Vodka Inc. because of the characteristic instability of the Russian government.
- Exchange Rate Risk - Is the currency of the home country stable? Remember the ADR shares track the shares in the home country. If a country's currency is devalued, it will trickle down to your ADR. This can result in a big loss, even if the company had been performing well.
- Inflationary Risk - This is an extension of the exchange rate risk. Inflation is the rate at which the general level of prices for goods and services is rising and, subsequently, purchasing power is falling. Inflation can be a big blow to business because the currency of a country with high inflation becomes less and less valuable each day.
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