|Summary: Eureka Report has recently begun giving you international stock recommendations after hiring seasoned global equities analyst Clay Carter. But how do you get in on the action? Today we explain what’s involved, and also outline the fees, the tax implications and the currency risks.|
|Key take-out: There are huge opportunities with overseas shares, but Australian investors should be aware that, to avoid double taxation on profits and income, they need to fill in specific documentation to claim back tax credits. We provide a link to this form in the article below.|
|Key beneficiaries: General investors. Category: Shares.|
Overseas equity markets are blossoming with opportunity for Australian investors.
As Robert Gottliebsen highlighted in his recent article, now is a good time to look to international markets for higher returns. He says Australian economic conditions are set to worsen amid falling business confidence while, in the US, corporate earnings are set to rise at a faster rate.
Outside the US, emerging markets are opening up their doors to the world. Just last week Saudi Arabia announced plans to allow foreign investors access to its $US530 billion stockmarket, while China has been relaxing rules for its sharemarket over the past few months.
Recognising the trend, Eureka Report recently hired global equities analyst Clay Carter, who has already made his first recommendation within the US oil and gas sector and continues to hunt down stocks with exceptional promise around the world.
But how, in a practical sense, can you buy and manage overseas stocks?
In short it does take some work, specifically paperwork and you literally need to do better with every dollar than you might on the domestic Australian market to compensate for the extra costs. But once you are prepared to take on board those extra costs and commitments the world literally opens up – as we have regularly pointed out in Eureka Report one of the great failings of the local equity market relates to what is missing. I.e., there is no significant listed technology or pharmaceuticals sector.
It’s useful then that technological advances are making it easier and cheaper to buy and sell stocks in other markets. A wide range of brokers provide international online platforms and telephone-based services, where investors can trade just as they would domestically.
However, there are costs and pitfalls investors must be wary about when taking the international plunge. They include:
- Double taxation. Most other taxation systems, like the US, don’t issue franking credits along with dividends.
- Currency movements. The rise and fall of the Australian dollar compared to other currencies can have huge influences on total returns.
- Higher brokerage fees. They can be around three to four times more expensive than fees for ASX trades.
Most brokers provide access to global markets, sometimes it is merely a ‘white-labelled’ services though a number of brokers make particular efforts to broaden the potential investment horizons of their client base.
For example, Melbourne-based Fortrend Securities provides its clients – predominantly self-managed super funds – with direct global equity services through its services and online trading platform.
Typically, big banks or major brokerages allow investors to open up a separate international trading account. ANZ’s Etrade goes a step further and integrates global and domestic shares into one platform (though you still need to fill in extra forms).
Higher brokerage fees
Investors can expect to pay three to four times more in brokerage fees when executing buy and sell trades in overseas markets than they would on the ASX.
Fortrend charges a minimum of $100 per trade. The cost increases depending on the size of the order and in which market the stock resides.
In a similar vein CommSec charges a minimum of $US65 for the major developed markets, which then scales up at 0.75% of the trade – whichever is greater. This compares with just $19.95 for a transaction value of up to $A10,000 in Australia.
Smaller markets like New Zealand and Singapore cost the greater of $US130, or 1% of the value of the trade.
There are also other fees to be aware about, including the foreign securities custody fee, the posted trade confirmation fee and the custody fee for inactive accounts.
Unlike in the Australian market, tax systems overseas don’t attach franking credits to dividends paid out to shareholders. This means shareholders are effectively taxed twice on profits: once on the corporate tax rate, and then again at their own marginal tax rate.
It also means investors should expect less investment income, with companies less incentivised to pay out dividends to shareholders and more inclined to reinvest for growth. As John King reveals in Franking credits propel returns, Australian investment income was 96% higher in 2013 than it would have been without franking credits.
“Capital growth in the US is the major component of total returns, as opposed to dividends in the Aussie market," says Christopher Wollermann, financial adviser at Fortrend.
That being said, Australia has tax treaties with over 40 other countries – including the US (see list of countries) – which provide relief to double taxation of income.
To claim the benefits of this treaty with US stocks, investors must sign the W-8BEN form at any point before sale. This form, which remains active for three years, lowers the withholding tax claimed by the Internal Revenue Service (IRS) to 15% from 30%. Taxpayers can then claim the withholding tax as a credit when they lodge their tax return with the Australian Taxation Office (ATO).
If a US-based company issued a $US100 dividend, for example, the IRS would withhold $US15. While the entire $US100 would still need to be included in taxable income to the ATO, $US15 would be deducted from the taxpayer’s marginal tax rate. This is especially attractive to an SMSF (with a marginal tax rate of 15%) because any obligation to the ATO is cancelled out.
Wollermann strongly advises investors to fill in the W-8BEN form because without it a 30% withholding tax is applied to dividends.
Any capital gains are taxed here in Australia, as they would be under normal circumstances.
When you trade overseas stocks, you buy and sell in the currency of the market where they are listed.
This adds an extra element of investing risk which can enormously impact returns for both dividends and capital gains.
For example, shares in Apple have climbed 25% to $97.76 over the past six months, but the Australian dollar has gone up to about US94 cents from around US87 cents over the same period. Australian investors who bought shares in Apple six months ago, therefore, would only have realised gains of around 16%.
In contrast, over the past three years the Australian dollar has fallen from $US1.08. Australian shareholders of Apple over this period would be very happy indeed: from a share price rise of 74%, they would have netted an increased return of 100% even before dividends.
If you believe the Australian dollar is set to fall further against the US and other currencies, buying overseas shares is an excellent way to provide exposure to this investment theme.
If, however, you think our local currency is on an upwards trajectory – which Adam Carr says could happen providing certain factors occur (see his recent article) – you can limit the impact of foreign exchange risk by hedging.
Hedging against currency movements commonly involves more complex financial instruments, such as contracts-for-difference, forward contracts and options contracts.
Most of Fortrend's SMSF clients don’t hedge their investments because they want to engage in the full diversification benefits with their offshore investments, Wollermann says.
Fees, just like taxation treatments and even currency movements, are important considerations, but they shouldn't change your mind about whether to invest overseas.
More than any of these factors, investing overseas is about diversifying your portfolio and gaining exposure to companies outside of the ASX – a market dominated by the banks and big resources stocks.
*An earlier version of this article said that without a valid W-8BEN form, a 30% withholding tax is also applied to the entire sale proceeds of shares. Eureka Report has since been informed by tax experts at KPMG that there should be no US withholding tax on the sale of US stocks by a non-resident of the US, even in the absence of a W-8BEN form. This means an investor would receive the full proceeds of the sale and declare the gain on their Australian tax return. To read more, see Buying shares offshore: Tax issues you need to know, January 21, 2015.