(MONEY Magazine) – The early reviews are rolling in for the 1996 production of As the World Turns, and overseas markets are winning raves. "Cheap stocks and strong growth rates abroad mean that selected foreign markets are once again poised to beat the U.S.," says Larry Jeddeloh, chief investment officer of the TIS Group, a Minneapolis investment adviser. Adds Harry Clark, president of Clark Capital Management Group, a Philadelphia investment firm: "European stocks could gain 12% to 15% next year, while those in the fast-growing Pacific Rim could return 20%." In light of that critical acclaim, investment advisers recommend that you take profits from your domestic holdings and plow 20% to 30% of your stock portfolio into international shares, in both developed and emerging markets.

Of course, to reap gains among the world's 40-plus diverse markets, you'll need to be choosy. To help you separate the dragons from the dogs, we've consulted more than three dozen international strategists, fund analysts and other experts on foreign investing. We start by providing you with a region-by-region outlook for the next year and then move to specific recommendations for a dozen top international stock funds.

For a comprehensive overview of global stock market conditions, MONEY turned to the major brokerage Smith Barney. The firm's rankings for five major world regions appear in the map at right. To arrive at them, Leila Heckman, managing director of the firm's Global Asset Allocation group, and her team applied a proprietary forecasting model to 39 countries grouped as follows: Europe, Japan, Asia (excluding Japan), Latin America and Middle East/Emerging Europe/Africa.

Heckman based her analysis on four criteria: 1) stock valuation, including price/earnings ratios based on both current and projected corporate profits; 2) economic growth, including five-year export estimates and projected gross domestic product (GDP) growth; 3) risk, including credit rating and whether a country's currency is overvalued or undervalued against those of its leading trading partners; and 4) interest rates, both short and long term, with lower rates being more favorable for stocks. Scores for those factors were combined into an overall score, and Heckman converted the numerical ratings into the letter grades from A (best) to F (worst) that you see on the map.

Heckman sees 1996's best opportunities in Asian markets outside Japan, and in Latin America. Pacific Rim nations, she says, figure to field the strongest economies, with forecast 1996 GDP gains of 5.7%, vs. the rest of the world's 3.3%. Helping fuel that growth: surging exports, which may increase 9% annually, vs. 6.3% for other international areas.

Latin America's main appeal is the chance to pick up stocks on the cheap. The area has a forecast 1996 P/E ratio of 12--vs. a world average of 15--and its price/book ratio (which measures the market value of the region's stocks compared with the net worth of the underlying companies) is only 1.5, compared with 1.9 for all international markets. But the region's risks are high: For one thing, its credit quality is the world's worst. In Mexico, still reeling from the December 1994 currency devaluation (the peso recently hit a record low of 7.8 to the dollar), stocks have nosedived 38% this year.

Europe gets a mixed but overall positive review. The region's slowing economic growth (3% predicted for 1996) is offset by cheaper-than-average stocks--with a forecast P/E of only 13--and low political risk relative to other foreign areas. Weaker countries are France, where huge budget deficits and high unemployment of 11.5% are hurting the economy, and the United Kingdom, where GDP growth will slow to 2.6% in 1996 from 2.8% this year. However, Ireland's economy will barrel along at 5.5% in '96 after jumping 6.7% in '95.

Heckman takes a dim view of Japan's prospects. The banking system is deeply troubled, GDP growth will be less than 1% in 1996, and even though the market is 54% below its all-time high, stocks are not particularly cheap: the forecast P/E ratio is 51, roughly equal to its 10-year average P/E of 54 and well above the global average of 15. On the positive side, the country is home to a spate of world-class companies and has extremely low short-term interest rates of around 0.5%. While 1996 may not be Japan's year, when the market does finally start to move it will likely rocket skyward, showering profits on contrarians who get in early.

Among the handful of active markets in the Middle East, Emerging Europe and Africa, Heckman finds that Turkey has low-priced stocks, with a forecast P/E of 8--lowest among the world's emerging markets. Israel will see its economy swell by 5.7% in 1996 and exports expand 9% annually over the next five years. South African stocks, however, are expensive in her view, with a price/book ratio of 2.4, well above the world's average of 1.9.

It's important not to translate Smith Barney's grades into simple stop and go signals. The comparative rankings are designed for people and institutions seeking full global diversification. For example, Japan's overall grade of E does not mean you should steer clear of that country's market entirely. Rather, it suggests that in allocating your foreign stake, Japanese holdings should get less than 36%--which is Japan's share of the world's stock market wealth, excluding the U.S. But how much less? For Heckman, in '96 roughly 32% sounds about right for individuals who want to diversify across the entire globe. And even though Latin America scores an enviable B, you wouldn't want to stash all of your non-U.S. investments there because the region accounts for only 3% of the international stock market value. Heckman's recipe calls for an 8% dash of Latin shares. In Asia (excluding Japan), she recommends salting away 16%, vs. the market's 11% share of the foreign feast.

Now that you know the forecast, how do you capitalize on it? Purchasing individual stocks on foreign markets can be costly and requires a great deal of difficult research--especially when it comes to neglected small and mid-size companies. For that reason, we recommend mutual funds. Buying a fund doesn't have to mean giving up all control over where your money goes, however. In the following section you'll find descriptions of five top diversified funds doing very different things--two focus on European stocks, one likes European bonds, one highlights Asian equities and one buys shares in emerging markets. In the second section, we describe seven regional funds, including three closed- ends, that concentrate in the specific areas of Europe, Asia and Latin America. Key performance figures and other data for all the funds are in the table on page 64.

DIVERSIFIED FUNDS

Diversified foreign funds, which spread their assets over 15 or more countries to reduce volatility, make an excellent core holding for 50% or more of your international stake. Larry Chin, associate editor of No-Load Fund Analyst ($195 a year; 800-776-9555), recommends $830 million Oakmark International, managed since its 1992 inception by David Herro, 35. Herro looks for only those companies that have strong cash flow and managements that make good use of that money, whether by plowing it back into the business, making valuable acquisitions, raising dividends or buying back stock. These days, Herro is finding undervalued stocks in Europe, which accounts for 50% of his 49-stock portfolio. He's fond of $23 billion (1995 estimated revenues) Volvo, the Swedish car and truck maker that is selling off nonautomotive businesses, and $4.8 billion Norwegian shipbuilder Kvaerner. Herro does not own a single Japanese stock.

Chin also likes $780 million Tweedy Browne Global Value, a value fund with 218 stocks that also concentrate on Europe (56% of assets). Co-managers Chris Browne, 48, Will Browne, 50, and John Spears, 46, are paying special attention to small companies; nearly 40% of the fund's assets are in outfits with market capitalizations of less than $500 million. Says Chris Browne: "Once you get away from the big household names, you can find great values in totally neglected stocks." One example: Maffei, a small ($57 million) Italian mining company that has a ceramics division showing surprising growth.

For a fund that invests heavily in Europe in a wholly different way, Thurman Smith, editor of Equity Fund Outlook ($115 a year; 617-397-6844), suggests $478 million GAM International, managed by John Horseman, 36. "Horseman's ability to do interesting things in poor markets means his fund tends to go up when other international funds go down," says Smith. (GAM was among the highly consistent performers featured in "Funds That Can Keep You on Top" in Money's December issue.) Currently, GAM International has 79% of its assets in Europe, with the largest stake (36%) in Germany. One thing that makes the fund different from its peers is its large holding of bonds (37%), primarily European issues such as 30-year German government bonds paying 6.25%. Horseman sees price gains ahead for these bonds because he thinks European fears of increasing inflation are unwarranted. Lately, he has added a handful of Japanese stocks to the portfolio, including $42.7 billion computer and semiconductor maker NEC Corp. and several other electronics firms that he expects to benefit from a weaker yen.

For a diversified fund that focuses more on fast-growing Asian countries than on Europe, consider $69 million Sit International Growth. Co-managers Andy Kim, 59, and Eugene Sit, 57, look for stocks in dynamic, high-growth industries such as telecommunications. To be added to their 65-stock portfolio, a company must show sustained annual earnings growth of 15% or more and a return on equity in the high teens. Currently, 25% of fund assets are in Japan and 26% in other Asian nations. One Pacific favorite: $1.3 billion Malaysian hotel and casino operator Genting Berhad, which is boosting earnings at about 25% a year. In Europe (39%), a big holding is $7.8 billion Nokia, the Finnish maker of telecommunications equipment and cellular phones.

Investment pros say you should invest 25% to 50% of your international portfolio in emerging markets funds. But they caution that you must be willing to hang on for five years or more, because stock prices in these fledgling markets have a tendency to swing wildly. Having gained 72% in 1993, for example, the average emerging markets fund plummeted 10% in 1994 and is down 1.2% in 1995. Now they may be due for another upswing. "This is an excellent time to buy emerging markets equities for the long haul," says Peggy McKean (pictured above), director of research for Stolper & Co., a San Diego investment adviser. "Their prices are beaten down, but their fundamentals are strong." She recommends $900 million Montgomery Emerging Markets, which seeks to lessen risk by diversifying among 260 companies in 32 different countries. Managers Bryan Sudweeks, 40, and Josephine Jimenez, 41, are taking large positions in the fast-growing Asian economies of Malaysia (13% of assets), Taiwan (8%) and Korea (6%). They are especially high on Brazil (10%, up from 1.5% three months ago), where the prospects of lower interest rates and increased privatization bode well for the market. One large holding: $769 million Aracruz Celulose, the world's leading supplier of bleached eucalyptus pulp to the paper industry.

REGIONAL FUNDS

Once you've established a core holding of diversified funds, you may want to turbocharge your portfolio by zeroing in on the most promising areas. Here are seven top regional funds, including three of the closed-end variety. Unlike open-end funds, closed-ends, like stocks, trade on exchanges, where the share price is determined by investors' demand and can be more or less than the fund's net asset value (NAV). Because numerous foreign markets have been performing poorly of late, many closed-ends are now selling at deep discounts to their NAVs.

Europe. Amy Arnott, senior editor of Morningstar Mutual Funds ($395 a year; 800-876-5005), recommends $802 million Dean Witter European Growth, which holds 115 stocks from 14 countries. Manager Jeremy Lodwick looks for growth companies that have fallen out of favor. The fund's heftiest stake (34% of assets) is in the United Kingdom. Lodwick is keen on $54.5 billion British Petroleum, which has coped with slack oil prices by paring its debt (down $6 billion over three years) and reducing capital spending.

For a top-performing closed-end fund that invests in European blue chips, George Foot, a partner at Newgate Management Associates in New York City, likes $150 million Europe Fund (ticker symbol: ef; recently traded on the New York Stock Exchange at $13), which is selling at a 11.7% discount. (Note: Foot's firm owns stakes in the closed-end funds he is recommending.) Co-manager Consuelo Brooke, 48, has been focusing on small and mid-size companies in the specialty retailing, communications and health-care sectors. The 95-stock portfolio includes companies from 15 countries. Its largest stake is in the United Kingdom (28%). One example: $5 million British Biotech, a tiny firm that Brooke likes for the gigantic potential of the products in its pipeline, including a cancer-treatment drug.

Pacific Rim. For exposure to fast-growing Asian markets outside Japan, Morningstar's Arnott favors $1.8 billion T. Rowe Price New Asia, which holds 179 stocks from 12 countries. The management team, led by Martin Wade, 52, has its heaviest bets in Hong Kong (24% of assets), including $4.5 billion real estate, media and finance conglomerate Hutchison Whampoa, and Malaysia (22%). To capitalize on the booming economy of mainland China, the fund has upped its holdings there to 6%, led by $565 million electric utility Huaneng Power International.

Investors who want to add Japanese stocks to their Asian regional holdings should consider $50 million GAM Pacific Basin. Says Stolper & Co.'s McKean: "Manager Michael Bunker is as smart, competitive and experienced as they come." Bunker, 45, has 32% of assets in Japan, where he prefers blue-chip exporters such as $18.9 billion Samsung Electronics that should thrive even if the domestic economy remains sluggish. The rest of his 60-stock portfolio is spread over 11 countries led by Australia (13%), where he owns mostly large mining companies, Thailand (10%) and Singapore (10%).

Foot likes the closed-end $785 million Templeton Dragon (TDF; NYSE, $12), managed by emerging markets guru Mark Mobius, 59. Mobius follows a strict value style, seeking stocks that are selling for less than his estimate of their inherent worth. That approach usually reduces risk, but be warned: This fund--which is trading at a 15.2% discount--can be very volatile. The reason is simple: concentration. Mobius has 74% of his assets in Hong Kong and 10% in China. The remaining 16% is in cash. "Hong Kong stocks are depressed because people think China's 1997 takeover will be a disaster," says Mobius. "We're more optimistic." The fund's top stock is $23.8 billion HSBC Holdings, Hong Kong's largest bank.

Latin America. For investors willing to hang on in this risky region for at least five years, No-Load Fund Analyst's Chin recommends $585 million Scudder Latin America. Co-manager Ed Games, 58, believes in buying stocks and holding them for the long term, as evidenced by the fund's extremely low turnover rate of 22%, vs. 63% for the average international fund. "We don't think there's any particular moment when the clouds will part and a voice will say, 'Now's the perfect time to invest in Latin America,'" he says. "So we buy here and there when we spot exceptional values." Lately, the 60-stock fund has boosted its Brazilian holdings to 45% of assets, with companies like Companhia Cervejaria Brahma, Brazil's leading beer producer.

Gregg Wolper, editor of Morningstar Closed-End Funds ($225 a year; 800-876-5005), likes $126 million closed-end fund Latin America Equity (LAQ; NYSE, $12). Trading at a 13.8% discount, the fund holds 141 securities in 10 countries. Manager Emilio Bassini, 44, has his largest concentration of stocks (29%) in Chile, the region's fastest-growing country with a forecast GDP rate of 7.1%. At 27% of assets, Brazil is the fund's second biggest stake. Notable stocks in that country include $7.2 billion phone company Telebras. (With only 7.5 lines installed per 100 residents, the lowest rate in South America, Brazil's phone service has much room to grow.) Mexico accounts for 20% of assets.

Now you're ready to find your passport and pack your bags: Any of these funds should provide a profitable trip abroad.