International equities and emerging markets seem to be all the rage at the moment. Most advisors and gurus are on record as saying that is the place to be for the next decade as growth in these markets will outpace the more developed nations.
That said, though, most investors should know that while faster gains in these markets can come, when they do pull back, the losses can be brutal. Just a few short years ago everyone was talking about how the rest of the world was decoupling from America and would be ok if America sneezed. The proceeding drops in most international markets continued to show that when America sneezes, the rest of the world catches a cold. Based on the size of the U.S. economy, I would argue that this will continue to be the case moving forward. Therefore, investors, especially retirees, need to be very careful how much exposure to these markets they take on. In the same breath, these markets should not be ignored by these types of investors either as the diversification and growth they provide will help investors maintain prudent portfolios.
One way I like to expose our clients to these riskier markets is through businesses that are foundational to these economies. I try to stay away from high growth, great story names that can blow up in investors faces when the story does not pan out, or more likely, the accounting behind the company is proven to be a sham. I want my clients to sleep well at night, while at the same time exposing them to these riskier markets. Is this possible?
I think if you stick to utility type stocks in these markets, you can obtain both goals of being more conservative in your foray into riskier markets. I do it with telecom stocks that make very large free cash flows and pay healthy dividends. If an emerging economy is going to double its GDP in the next decade, I would imagine that the infrastructure and demand for communication services will match that growth. If the emerging economy falters, the companies that we own will continue to have solid demand from existing business which should hopefully continue to provide high free cash flow and dividend payments to retirees who need the cash. That said, let's take a look at a handful of these types of companies.
Philippine Long Distance (PHI) provides telecommunication products and services in the Philippines. Currently, PHI pays around a 4.6% dividend yield and sports a $10.4 billion market cap. Going back to fiscal year 2006 through the third quarter of 2010, which covers 19 quarters, the company has earned just under $5.9 billion in free cash flow for investors. This is a 55% free cash flow return assuming comparable performance over the next 19 quarters which would equate to a bit over 11% free cash flow yield per year on average in relation to the current market cap. It's a great way to get in on the emergence of the Philippines while being conservative by owning a cash cow that pays a nice dividend and will grow as the economy there grows.
Telecomunicacoes de Sao Paulo S.A. (TSP) provides fixed-line telecommunications services to residential and commercial customers in the state of Sao Paulo, Brazi. Currently, TSP pays around a 6.9% dividend yield and sports a $12.2 billion market cap. Looking back at the last 19 quarters here, the company has earned a tad over $9.5 billion in free cash flow for investors. This is a 77% free cash flow return assuming comparable performance over the next 19 quarters, which would equate to a bit over 16% free cash flow yield per year on average in relation to the current market cap.
Telefonos de Mexico, S.A.B. de C.V. (TMX) provides telecommunications services primarily in Mexico. Using the same format above, the company pays a 4.3% dividend yield and sports a $16.3 billion market cap. Over the past 19 quarters the company has provided $19.3 billion in free cash flow to investors, which is a healthy 118% of the current market cap.
Imagine if you had $16.3 billion today and the company performs similarly over the next 19 quarters. You would average 25% a year return on your investment from the cash flow and you could pull out of the company being 100% over. Wow!
Telstra Corporation Limited (OTC:TLSYY), together with its subsidiaries, provides telecommunications and information services in Australia and internationally. Telstra sports a mouth watering 9% dividend yield and has a $35 billion market cap. Through June of 2010 and going back four fiscal years, the company has provided investors with $15.5 billion in free cash flow, a healthy 11% free cash flow average based on historical performance when compared to current market cap.
Telecom historically has been considered a sector for widows and orphans. It is not usually considered a high growth area, but is viewed as more of a utility type sector that pays large dividends. Therefore, telecom is a decent place to dip your toe in these emerging and international economies, while still remaining some semblance of being conservative while getting paid well to take this risk. Hopefully the list above will embolden retirees who need income to pay for living costs to do more homework on this idea of investing in more conservative stocks that reside in riskier nations.
Additional disclosure: We are Long all stocks mentioned in this article in client accounts that we manage. We do not intend to buy more for clients who currently own within the next 72 hours.