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International flavour to spice up your portfolio

INVESTMENT REPORTER

Looking for global hot spots for investing this year? How about eastern Europe, France, Norway, South Korea or South Africa? Or for something more exotic, there's Macau, the island enclave whose gambling casinos are filled with mainland Chinese.

One of the top draws for 2007 is Europe as a whole. The region generally trades at a discount to its North American counterparts, said Peter O'Reilly, Dublin-based manager of the Investors Global Fund. Also, interest rates are lower in Europe than in the United States, while profit growth has been roughly the same as in the United States over the past 10 years, "which means that the whole trade looks a lot more attractive," he said.

"France is interesting by virtue of the fact that you have got elections coming up this year," said Mr. O'Reilly. Campaign promises bode well for the markets, including proposals to drop the French corporate tax rate from the 30-per-cent range to the mid-teens, and to make mortgage interest tax-deductible, as it is in the United States.

French banks are "best positioned to benefit from that," noted Mr. O'Reilly, whose fund's biggest holdings include BNP Paribas SA and Crédit Agricole SA.

Norway, one of the largest producers of oil outside OPEC, is also seen as a good prospect for 2007. Both its current account and government accounts are in surplus -- "a fiscal status that most countries would give their left arm for," Mr. O'Reilly said. He said he is finding interesting opportunities in Norway's energy, fishing and financial services industries.

Eastern Europe is also surfacing on fund managers' radar screens.

"Eastern Europe is on the doorstep of a very wealthy, developed part of the world," noted Manraj Sekhon, London-based director of international equities at Henderson Global Investors and manager of the Mackenzie Universal International Stock Fund. Not all fund managers are playing Eastern Europe directly. Some are instead buying stocks of companies that serve that area. Gavin Graham, chief investment officer at Guardian Group of Funds in Toronto, gave as an example Stockholm-based Oriflame Cosmetics SA, Europe's largest direct-sales cosmetics firm, which markets in Eastern Europe and Russia. Cosmetics are "actually one of the first things people buy when they get wealthier," Mr. Graham said.

Along with Europe, fund managers also see attractive opportunities in Asia, particularly Japan and South Korea. Much was expected of Japan in 2006, but its stock market didn't deliver. But the fact that it did so poorly makes global fund managers optimistic about this year.

"Japan has actually been growing for the longest continuous period since World War II," said the Guardian Group's Mr. Graham. This will be Japan's fifth year of economic growth, averaging 2.5 per cent to 3 per cent a year, he noted.

"We are very positive on Japan," echoed Mr. Sekhon, who notes that shares of the largest Japanese companies are now "much cheaper than they have been on average for about 20 years."

Mr. Sekhon believes the best way to play the Japan story is through the banks and other financial institutions. His Mackenzie Universal fund accordingly counts Mizuho Financial Group Inc. and Daiwa Securities Group Inc. among its top 10 holdings, and also has a big position in Aeon Mall Co. Ltd., a Japanese supermarket developer and operator.

As for South Korea, Mr. O'Reilly finds its market is attractively cheap. The general consensus sees Korean corporate profits rising 18 per cent this year, yet the market is trading at about 10 times earnings. Moreover, Korean companies have closed the gap with their Japanese counterparts over the past 10 years, he noted, citing as examples LG Electronics Inc. and Samsung Electronics Co. Ltd.

Mr. O'Reilly cites other favourable factors, including the fact that South Korean companies are more shareholder-friendly than, say, Japanese firms, and that corporate governance has improved significantly more than in the United States. He notes that while the Korean won has been one of the best-performing Asian currencies, he believes it will start to depreciate, which would be good for exporters.

Mr. O'Reilly also likes the South African market. For one thing, that market, whose performance is heavily influenced by commodity prices, is cheap, trading at about 10 times earnings which are expected to grow by 21 per cent in 2007. That stands in sharp contrast to the Chinese market, for example, where profit growth is forecast to increase 18 per cent this year and the price/earnings multiple is 16 times.

Big financial institutions in China, such as Industrial and Commercial Bank of China Ltd. and China Life Insurance Co., "are trading at colossal premiums whereas if you look at some of the financials . . . or some of the . . . telecom companies in South Africa, where penetration is still very, very low and is growing, the valuations look very, very attractive," Mr. O'Reilly said.

As for prospects in the so-called BRIC countries (Brazil, Russia, India and China), some fund managers are more upbeat than others. Henderson Global's Mr. Sekhon, for example, thinks Brazil and China will continue to do well and he is looking closely at Russia, an area he hasn't previously been exposed to.

Mr. O'Reilly, in contrast, isn't a big BRIC fan at this time. The risk premiums one would expect to get in those countries has either disappeared or dropped to multi-year lows, he pointed out. And while the Chinese economy will continue to grow rapidly, investors "are treating it like a developed economy, and it is not going to be without some bumps along the way," he said.

"I think if you are going to invest in those markets, you need to be very stock-specific and focused," Mr. O'Reilly added. He specifically looks for companies that are best in their class and produce returns comparable to their Western counterparts.

They are even more attractive if they have diversified operations outside the emerging markets. Examples include Petroleo Brasileiro SA (better known as Petrobras) and Companhia Vale do Rio Doce (CVRD).

And if you're looking for more exotic markets, consider Macau, the former Portuguese possession that has been part of China since 1999 and is now booming as one of the world's top gambling destinations. Mr. Sekhon holds shares in Melco PBL Entertainment (Macau), a casino developer. "We think this is a hot market and a great way to play the China growth story," he said.

© 2007 The Globe and Mail. All rights reserved.

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