American Depositary Receipt (ADR)

Lesson

American Depositary Receipts (ADRs) are a type of equity security that allows investors to invest in foreign companies without dealing with the complexities of foreign stock exchanges and currency conversions. U.S. banks issue ADRs and represent a specified number of shares in a foreign company. They trade on U.S. stock exchanges and are subject to U.S. securities regulations.

Practice Question #1

Which of the following best describes an American Depositary Receipt (ADR)?

A) A certificate representing shares of a U.S. company

B) A negotiable certificate issued by a U.S. bank representing shares of a foreign company

C) A type of preferred stock

D) A bond issued by a foreign company

Select an option above to see an explanation here.

A) A certificate representing shares of a U.S. company is domestic common stock. B) A negotiable certificate issued by a U.S. bank representing shares of a foreign company is an ADR. C) A type of preferred stock is a different type of equity security. D) A bond issued by a foreign company is a debt security, not an equity security.

Terms

American Depositary Receipt (ADR):: A negotiable certificate issued by a U.S. bank representing a specified number of shares in a foreign company traded on U.S. stock exchanges.

Practice Question #2

Which of the following is a risk associated with investing in ADRs?

A) Currency risk

B) Inflation risk

C) Interest rate risk

D) Default risk

Select an option above to see an explanation here.

A) Currency risk is a risk associated with investing in ADRs, as changes in exchange rates can affect the value of the investment. B) Inflation risk is a general risk associated with all investments, not specific to ADRs. C) Interest rate risk is primarily associated with fixed-income investments, not equity securities like ADRs. D) Default risk is primarily associated with debt securities, not equity securities like ADRs.

Do Not Confuse With

Domestic common stock:: Shares of U.S. companies traded on U.S. stock exchanges.

Practice Question #3

What is the primary purpose of an American Depositary Receipt (ADR)?

A) To facilitate the trading of foreign stocks in the U.S.

B) To allow U.S. investors to invest in foreign bonds

C) To provide a tax advantage for foreign investors

D) To convert foreign currency into U.S. dollars

Select an option above to see an explanation here.

A) ADRs are created to facilitate the trading of foreign stocks in the U.S., making it easier for U.S. investors to invest in foreign companies. This is the correct answer. B) ADRs are related to stocks, not bonds. C) ADRs do not provide a tax advantage for foreign investors. D) ADRs do not directly convert foreign currency into U.S. dollars.

Historical Example

In the late 1980s, many foreign companies began issuing ADRs to tap into the U.S. capital markets. This trend was driven by the desire to diversify their investor base and gain access to the world's largest economy. The popularity of ADRs has continued to grow, with thousands of foreign companies now having ADRs listed on U.S. stock exchanges.

Practice Question #4

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Example Series 65 Example Practice Question

Real-World Example

An investor in the United States wants to invest in a popular European technology company. Instead of buying shares directly on the European stock exchange and dealing with currency conversions, the investor can purchase ADRs of the company on a U.S. stock exchange. This allows the investor to gain exposure to the foreign company while trading in U.S. dollars and dealing with familiar U.S. securities regulations.