Despite Weakness, Emerging Markets Not Dead Yet

Feb 6 2014, 4:32pm CST | by

Emerging markets are doing better than sentiment suggests.

Despite that, Fed tapering from its asset purchasing program this year worries investors. China’s housing bubble and growing concern over a possible credit crisis there aren’t helping. Last month, the Industrial and Commercial Bank of China got support from the government to bailout out a $420 million wealth management product called Credit Equals Gold #1.

“Investors know that every time the Fed reaches an inflection point in policy, there’s some crisis in an emerging market,” says Bryan Carter, a fund manager at Acadian Asset Management in Boston. “What investors forget is how emerging markets have changed over the years. Most of these countries don’t have the probability of default. They don’t care if their currency weakens.”

Investors this year remain focused on the U.S. economy and the European recovery. Japan has taken a backseat and is underperforming some emerging markets in Asia.  And on Asia, investors who used to love a good China bull story, now seem like they cannot get enough of the bear case.

Retail investors have been pouring out of emerging market equity and bond funds, according to fund tracking firm EPFR Global in Cambridge, Mass. Still, even taking a passive, top-down approach to emerging markets, some are beating the very economies investors love.

The iShares MSCI Germany (EWG) exchange traded fund is down 5.26% year-to-date, while the Market Vectors Indonesia (IDX) ETF is up 2.12%. The SPDR S&P 500 (SPY) ETF is down 4.04% YTD, but Market Vectors Vietnam (VNM), Market Vectors Poland (PLND) and iShares MSCI Thailand (THD) are beating it.

Last year’s darling Japan is down 7.2% compared to last year’s BRIC basket case India, which is down 6.01% as measured by Wisdom Tree India Earnings (EPI).

“A slowing Chinese economy and declining emerging market corporate profitability over recent years are all feeding negative sentiment and have led some critics to herald the death of emerging markets. We believe the fundamental investment case for the asset class nevertheless remains intact,” says Devan Kaloo, head of emerging markets for Aberdeen, a $320.6 billion asset manager from the U.K.

The big four emerging markets, known as the BRICs, grew up at a time of high liquidity and massive debt in the advanced economies. Consumers in the U.S. are now deleveraging, buying less Made in China goods, which in turn means China is buying less Made in Brazil iron ore pellets to feed its own development.

Emerging market currencies were gaining on the dollar almost daily. In June 2008, the Brazilian real was worth R$1.55. Today it is worth a much weaker R$2.40. For some countries, cheaper currencies could — in theory — help boost exports, while higher interest rates there slow domestic growth and imports.

“We believe this will eventually lead to an improvement in current account positions, underpinning currencies and allowing interest rates to come back down,” says Kaloo. Investors have been growing wary of deficits in countries like India and Brazil over the past two years, adding to poor investor sentiment.

Moreover, emerging market corporate profitability has declined as companies have had to contend with slower economic growth and margin pressures from rising capital and labor costs. In contrast, developed market companies, particularly in the U.S., have seen profitability hold up as they have taken costs out of their businesses and have implemented significant share buyback programs.

China remains the elephant in the room. Beijing is pursuing interest rate liberalization and consumption-led growth as a means to address the fundamental misallocation of capital, particularly at the municipal level. This has consequences for global and emerging markets growth as China’s economy slows and the nature of its imports change. China will build less. This could pressure jobs. The economy will struggle to grow over 7.5%.

In a worst case scenario, Beijing has the money and the reins to steer the economy wherever it wants. The banking system remains well capitalized despite increases in non-performing loans and a closed capital account gives the authorities greater control of the situation. New leaders, now nearly a year in office, have laid out a number of economic reforms that, if pursued, will provide better investment opportunities in China.

Today, emerging markets make up 40% of the world’s GDP – compared to 14% in 1997 when the Asian crisis started in Thailand, wiped out the so-called Asian Tigers, spread to Russia and saw the end of dollar-pegged currencies in that part of the world.

Times have changed, but investors have not forgotten what the Fed can do to emerging markets.

Many emerging markets now run structural account deficits and therefore have to rely on foreign capital inflows to maintain value of their currencies. Others, like Brazil, have to tap into their foreign currency reserves to save their currency from speculative attacks.

“The final point in all this is the dollar,” says Mauro Ratto, head of emerging markets for Pioneer Investments, a $230 billion asset manager in London. “A strong dollar has made life much more difficult for emerging markets. Even now I think the dollar is undervalued,” Ratto says. “I know that is not consensus, but when interest rates rise in the U.S., the dollar will get stronger.”

Even long term global investors worry that a strong dollar means weaker emerging markets.

“Everyone is looking for a big policy movement,” says Carter from Acadian. Wednesday’s European Central Bank announcement that it was keeping interest rates flat was one such movement. A lower rate would have been better news for emerging markets even though the MSCI Emerging Markets Index rose 2% today.

“It is hard to call tops and bottoms. A deliberate and diversified approach is probably the most prudent way to buy in now,” Carter says.

Source: Forbes Business

 
 

Don't miss ...

 

<a href="/latest_stories/all/all/30" rel="author">Forbes</a>
Forbes is among the most trusted resources for the world's business and investment leaders, providing them the uncompromising commentary, concise analysis, relevant tools and real-time reporting they need to succeed at work, profit from investing and have fun with the rewards of winning.

 

blog comments powered by Disqus

Latest stories

Home Improvement and Roofing Contractor in Chicago Stands Apart from Other SMBs with New Web Site
Chicago, IL, April 17, 2014 --(PR.com)-- Fewer than half of small and medium businesses (SMBs) across the country have a Web site. One of the latest SMBs to join the Web-savvy minority and take steps to create a...
 
 
Record $550 Million Milwaukee Bucks Sale Highlights NBA's Prosperity
Record $550 Million Milwaukee Bucks Sale Highlights NBA's Prosperity
LeBron James took to Twitter last year in January to express his incredulity over the sale of the lowly Sacramento Kings for a huge sum one year after the NBA lockout ended. “So the Kings getting sold for 525M!! And the...
 
 
Wild Cards: Tennis' Free Lunch May Cause Indigestion
There’s no such thing as a free lunch, but tennis has something close to it: wild cards. A wild card grants entry into a tournament’s main draw or qualifying rounds for a pro who doesn’t make the ranking cutoff for a...
 
 
Bye Bye Barbie: Mattel Sinks On Tanking Doll Sales
Bye Bye Barbie: Mattel Sinks On Tanking Doll Sales
For nearly 70 years, Barbie has ruled the dollhouse. But Mattel’s star may now be a relic of the past. Mattel shares sank slightly on Thursday morning after the company announced a net loss of $11.2 million and...
 
 
 

Latest from the Network

Bully Ray: I could be new James Gandolfini
TNA Superstar Bully Ray wants to become an actor and thinks he can be the new James Gandolfini. The wrestler has started to branch into other areas of entertainment and thinks he would be a good fit for some of the...
Read more on Celebrity Balla
 
Hayden Panettiere will be 'sexy' bride
Hayden Panettiere wants to be a "sexy and youthful" bride. The 24-year-old actress has not yet set a date for her wedding to fiancé Wladimir Klitschko but already knows she wants to look "classy and elegant". She told...
Read more on Celebrity Balla
 
Home Improvement and Roofing Contractor in Chicago Stands Apart from Other SMBs with New Web Site
Chicago, IL, April 17, 2014 --(PR.com)-- Fewer than half of small and medium businesses (SMBs) across the country have a Web site. One of the latest SMBs to join the Web-savvy minority and take steps to create a...
Read more on Business Balla
 
Record $550 Million Milwaukee Bucks Sale Highlights NBA's Prosperity
LeBron James took to Twitter last year in January to express his incredulity over the sale of the lowly Sacramento Kings for a huge sum one year after the NBA lockout ended. “So the Kings getting sold for 525M!! And the...
Read more on Business Balla
 
Wild Cards: Tennis' Free Lunch May Cause Indigestion
There’s no such thing as a free lunch, but tennis has something close to it: wild cards. A wild card grants entry into a tournament’s main draw or qualifying rounds for a pro who doesn’t make the ranking cutoff for a...
Read more on Business Balla
 
Bye Bye Barbie: Mattel Sinks On Tanking Doll Sales
For nearly 70 years, Barbie has ruled the dollhouse. But Mattel’s star may now be a relic of the past. Mattel shares sank slightly on Thursday morning after the company announced a net loss of $11.2 million and...
Read more on Business Balla
 
Mexico's Drug War: Substantial Changes Seen In Michoacan
Editor’s Note: This week’s Security Weekly summarizes our quarterly Mexico drug cartel report, in which we assess the most significant developments of the first quarter of 2014 and provide a forecast for the second...
Read more on Business Balla
 
Learning A Language Is For Life Not Just For Business
The ability to speak another language is seen as crucial to success in a globalized economy but advocating learning languages based on their usefulness is flawed. Instead, we should promote them for their own sake and...
Read more on Business Balla
 
FDA's Proposed Regulation Of Brewers' Spent Grains Is All Wet
During his February 5, 2014 appearance at a House Energy and Commerce Committee hearing, Food and Drug Administration (FDA) Deputy Commissioner Michael Taylor stated that “the whole goal of [the Food Safety...
Read more on Business Balla
 
Europe's Car Sales Boom, But Honda Trips Over Lame Product Lineup
Car sales in Western Europe continued to rally from a six year slump, but Honda of Japan’s sales dived as its range of CR-V SUVs and Civic small cars proved unloved and too expensive. And don’t expect an improvement...
Read more on Auto Balla
 
 
Auto Balla Sexy Balla Sport Balla TV Balla Politics Balla Movie Balla Apple Balla Business Balla Ad Balla Celebrity Balla