Global Investing

Asia’s path to prosperity and investment opportunities

Investors have been worried about the effect of a Chinese slowdown on Asian emerging markets, but the long-term growth story is still intact, according to specialist investment manager Matthews Asia.

Consumption is one of the key areas of growth. Illustrating the divergence of Asian economies and their path to prosperity, here’s an interesting chart from Matthews which shows the standard of living of various Asian countries, expressed by applying Geary-Khamis dollars — the concept of international dollars based on purchasing power parity — to today’s Japan.

For example, the living standards of North Korea and Mongolia are at around that of Japan in the 1890s — when Japan and China fought in the Sino-Japanese war and Wilhelm Rontgen discovered x-rays — while China’s is equivalent of an early 1970s Japan and Malaysia and Thailand are a step ahead at the mid-1970s.

This means a lot of countries have further to go until they reach the present economic status enjoyed by Japan, South Korea and Taiwan, giving investors huge opportunities.

“There’s a vast opportunity set for you to participate in the consumer story. Development of the services sector is a driving factor going forward,” says Lydia So, U.S.-based portfolio manager of Matthews.

Liquidity needs to pick up in EM

Emerging markets have seen heavy selling in the past few months, with political and economic crises hitting the region’s currencies and asset markets.

The obvious question now is: Is all the bad news in the price?

London-based CrossBorder Capital, who publishes monthly liquidity and risk appetite data for developed and emerging economies, thinks not.

“It is probably too early to buy the EM sector right now, certainly not until liquidity picks up again,” Michael Howell, CrossBorder’s managing director, says.

No more “emerging markets” please

The crisis currently roiling the developing world has revived a debate in some circles about the very validity of the “emerging markets” concept. Used since the early 1980s as a convenient moniker grouping countries that were thought to be less developed — financially or infrastructure-wise or due to the size or liquidity of their financial markets — the widely varying performances of different countries during the turmoil has served to underscore the differences rather than similarities between them.  An analyst who traveled recently between several Latin American countries summed it up by writing that he had passed through three international airports during his trip but had not had a stamp in his passport that said “emerging market”.

Like this analyst, many reckon the day has come when fund managers, index providers and investors must stop and consider  if it makes sense to bucket wildly disparate countries together.  After all what does Venezuela, with its anti-market policies and 50 percent annual inflation, have in common with Chile, a free market economy with a high degree of transparency  and investor-friendliness?

Deutsche Bank analyst John-Paul Smith is one of many questioning current index-based investing models which he says essentially provide a free ride to the Russias and Venezuelas of this world, who may be undeserving of investor dollars.  Simply by virtue of inclusion in the emerging index, a country becomes a “default beneficiary” of passive investment flows — from funds that hug or track the benchmark — Smith says. In a note he calls for the abandonment of current index criteria such as market access, liquidity or per capita income in favour of a “substantive governance-based view of risk”
In other words:

Reforms changing the yin-yang of investing in China? – PODCAST

China’s influence on emerging markets, let alone the global economy, cannot be understated. Great strides have been made to build the economy over the past 30 years, but not without its casualties. In a conversation with Michelle Gibley, director of international research at Charles Schwab, I asked her about a new research paper she’s published on why, amid the angst and doubt on emerging markets, she has shifted her views. She’s turned positive on Chinese large-cap stocks and says the China of the past was running out of gas.

Click here to the interview. (My thanks to Freddie Joyner for helping get the audio into workable shape.)

Why New Reforms Make Chinese Stocks Attractive – Michelle Gibley, Director of International Research, Charl…

Emerging stocks lose again in November

By Shadi Bushra

After years of basking in their reputation as high-return hot spots, 2013 could be the year emerging equity markets finally lost their magic touch. Last month continued the litany of losses — seventeen of the 20 emerging markets listed on S&P Dow Jones indices ended November in the red, the index provider says. Contrast that with developed markets’ fortunes last month– 18 of the markets listed by the index rose, while eight fell.

So last month’s scores: Emerging stocks – down 2 percent; Developed stocks – up 1.6 percent. And for 2013 as a whole, emerging stocks are down 3 percent while developed markets are up a whopping 22 percent, approaching their 2007 peaks, according to S&P Dow Jones.

While each of the emerging market countries has their own unique cauldron of political and economic issues affecting their stocks’ performance, there is common ground too – the expected tapering of U.S. monetary stimulus.  The hardest-hit emerging countries were those that have too much exposure to investors in developed countries, who may move their money from the developing world once the cheap money begins to dry up.  Worst off was Indonesia where equities fell nearly 13 percent in November, and on the year they are down more than 23 percent.

Revitalised West knocks Brazil, Russia off global growth Top-30

By Shadi Bushra

Yet another sign of the growth convergence between developed and emerging markets. Two  of the “BRIC’ countries have dropped out of the Top-30 in a growth index compiled by political risk consultancy Maplecroft, while several Western powerhouses have nudged their way onto the list.

Maplecroft’s 2014 Growth Opportunities Atlas showed that Brazil and Russia — the B and R of the BRIC bloc — had dropped 26 and 41 places, respectively – due to slow economic reforms and diversification.  The United States, Australia and Germany meanwhile broke into the top 30 on the  index, which evaluates 173 countries on their growth prospects over the next 20 years.

The study’s results are indicative of the broader pattern this year of an emerging markets slowdown after years of robust growth fuelled by cheap money from the West and a decade of booming trade. But the two other BRIC countries — India and China — have retained their top spots, albeit with lower absolute scores. And India overtook China for first place due to its “catch-up growth potential,”  Maplecroft’s report said.

Emerging equities: out of the doghouse

Emerging stocks, in the doghouse for months and months, haven’t done too badly of late. The main EM index,  has rallied more than 11 percent since its end-August troughs, outgunning the S&P 500′s 3 percent rise in this period. Bank of America/Merrill Lynch strategist Michael Hartnett reminds us of the extreme underweight positioning in emerging stocks last month, as revealed by his bank’s monthly investor survey.  Anyone putting on a long EM-short UK equities trade back then would have been in the money with returns of 540 basis points, he says.

Undoubtedly, the postponement of the Fed taper is the main reason for the rally.  Another big inducement is that valuations look very cheap (forward P/E is around 9.9 versus a 10-year average of 10.8) .

According to Mouhammed Choukeir, CIO , Kleinwort Benson:

Looking at valuations we think emerging markets are in an attractively valued zone, hence we think it’s a good investment. EMs are in negative momentum trend but have good valuations. We’re sitting on the positions we’ve built but if it hits a positive (momentum) trend we will add on it…. You wait for value and value will translate into returns over time.

The hit from China’s growth slowdown

China’s slowing economy is raising concern about the potential spillovers beyond its shores, in particular the impact on other emerging markets. Because developing countries have over the past decade significantly boosted exports to China to offset slow growth in the West and Japan, these countries are unquestionably vulnerable to a Chinese slowdown. But how big will the hit be?

Goldman Sachs analysts have crunched the numbers to show which markets and regions could be hardest hit. On the face of it non-Japan Asia should be most worried — exports to China account for almost 3 percent of GDP while in Latin America it is 2 percent and in emerging Europe, Middle East and Africa (CEEMEA) it is just 1.1 percent, their data shows.

But they warn that standard trade stats won’t tell the whole story. That’s because a high proportion of EM exports are re-processed in other countries before reaching China which in turn often re-works them for re-export to the developed world. In other words, exports to China from say, Taiwan, may be driven not so much by Chinese demand but by demand for goods in the United States or Europe. So gross trade data may actually be overstating a country’s vulnerability to a Chinese slowdown.

Bernanke Put for emerging markets? Not really

The Fed’s unexpectedly dovish position last week has sparked a rally in emerging markets — not only did the U.S. central bank’s all-powerful boss Ben Bernanke keep his $85 billion-a-month money printing programme in place, he also mentioned emerging markets in his post-meeting news conference, noting the potential impact of Fed policy on the developing world. All that, along with the likelihood of the dovish Janet Yellen succeeding Bernanke was described by Commerzbank analysts as “a triple whammy for EM.” A positive triple whammy, presumably.

Now it may be going too far to conclude there is some kind of Bernanke Put for emerging markets of the sort the U.S. stock market is said to enjoy — the assumption, dating back to Alan Greenspan’s days, that things cant go too wrong for markets because the Fed boss will wade in with lower rates to right things. But the fact remains that global pressure on the Fed has been mounting to avoid any kind of violent disruption to the flow of cheap money — remember the cacophony at this month’s G20 summit? Second, the spike in U.S. yields may have been the main motivation for standing pat but the Treasury selloff was at least partly driven by emerging central banks which have needed to dip into their reserve stash to defend their own currencies. According to IMF estimates, developing countries hold some $3.5 trillion worth of Treasuries, of which just under half is in China. (See here for my colleague Mike Dolan’s June 12 article on the EM-Fed linkages)

David Spegel, head of emerging debt at ING Bank in New York says the decision reflects “an appreciation for today’s globalised world”:

Russian stocks: big overweight

Emerging stocks are not much in favour these days — Bank of America/Merrill Lynch’s survey of global fund managers finds that in August just a net 18 percent of investors were overweight emerging markets, among the lowest since 2001. Within the sector though, there are some outright winners and quite a few losers. Russian stocks are back in favour, the survey found, with a whopping 92 percent of fund managers overweight. Allocations to Russia doubled from last month (possibly at the expense of South African where underweight positions are now at 100 percent, making it the most unloved market of all) See below for graphic:

BofA points out its analyst Michael Harris recently turned bullish on Russian stocks advising clients to go for a “Big Overweight” on a market that he reckons is best positioned to benefit from the recovery in global growth.

Russia may not be anyone’s favourite market but in a world with plenty of cyclical headwinds, Russia looks a clear place for relative outperformance with upside risk if markets turn… we are overweight the entire market as we like domestic Russia, oil policy changes and beaten-up metals’ leverage to any global uplift.