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They are similar to each other. Basically they are like a "tracking stock" that is a locally traded version of overseas traded shares.
Does the pricing of an ADR take into account exchange rate fluctuations? or is the rate pegged?
it reflects exchange differentials, otherwise there would be arbitrage.
arbitrage how? can you sell your ADR's to buy the real stock?
If ADRs did not acct for exchange rate differentials there will be an arbitrage senario.
Say you have a European company which has an ADR listing in the US. (and the ratio is 1:1). Further the EURUSD rate is 1.0000 and the price of the ADR on NYSE is 50 and in Europe its 50 as well.
If the price in Europe remains the same but the eurusd rate advances to 1.2000 then the price of the ADR should be 60 accounting for exchange rates. If, however, say the ADR is priced at 55 then you have an arbitrage opportunity as ADRs are convertible to their domestic counterparts. So you could convert your ADR's into their domestic stock for 45.83 euros and short the stock at the domestic market at 50 euros. You would also short the appropriate amount of eurusd spot to negate the currency risk in this arbitrage opportunity.
so you CAN convert ADR's into domestic... can you convert domestic to ADR's too?
Yes you can convert ADRs to domestic. However, it is NOT a rule that you can convert domestic to ADR. Some issues allow you to, others do not.
so there's only arbitrage opportunities if the ADR is undervalued, not if the domestic is undervalued... right?
I am not a 100% sure of this. I am certain that firms would take action to prevent gross mispricing which would mean arbitrageurs would pile in both ways. Generally only market makers would have the speed necessary to take advantage of such positions. I read a paper somewhere (can't remember the title) which found very few arb opps in the market. You might want to track that down (try Google/Google Scholar) as that would give more info.
American Depositary Receipts (Originally Posted: 07/16/2008)
Just wondering if anyone has anymore information on how the ratios are set. This is for standard international equities.
Thanks
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