Your Investments: Emerging-market economic growth

According to the International Monetary Fund, emerging- market (EM) economies are forecast to grow 5 percent in 2015.

By AARON KATSMAN
January 14, 2015 23:20
3 minute read.
Brokers

Brokers in the trading room of an investment bank in Tel Aviv. (photo credit: NIR ELIAS / REUTERS)

Buy low and sell high – the most basic principle in investing.

As the US stock market (as measured by the S&P 500) trades near record levels in the face of continued disappointing economic news, investors should be on the lookout for markets that have the potential to provide more value going forward. After three years of relative underperformance versus the United States, now may be the time for investors to turn their attention to emerging economies.

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Growth
According to the International Monetary Fund, emerging- market (EM) economies are forecast to grow 5 percent in 2015. That’s not too shabby, considering economies like Russia and Brazil are contracting. Developed markets are set for much more modest 2.5% growth. I believe that may be a stretch, and by April we are going to see those numbers ratcheted down.

While much of the growth in the developed world is due to central bankers printing money, the growth we see in EM is of better quality – if one can make that differentiation! EM investing pioneer Mark Mobius writes: “Moreover, many emerging markets, among them China, India, Indonesia, Mexico and South Korea, have announced or embarked upon significant reform measures that differ in details but are generally aimed at sweeping away bureaucratic barriers to economic growth, encouraging entrepreneurship and exposing inefficient industries to market discipline. Most are also looking to rebalance economic activity away from export- and investment-heavy models to become more oriented toward consumer demand.”

Wouldn’t that be great if Israel would adopt some of those reforms?

Underperformance
I think that it’s this very underperformance against the backdrop of strong economic fundamentals that makes for an intriguing investment.

I mentioned the need to buy low and sell high, well this really applies now vis-a-vis emerging markets. Mobius continues: “As of December-end, the favorable trends in emerging markets appeared under-recognized in equity valuations that generally stood well below those of developed markets.

Even after recent rallies in some emerging markets, they continued to appear relatively attractive to us in relation to history, particularly if very low bond yields and interest rates for savers are taken into account.”

While they are nervous about EM, nonetheless Russell Investments wrote in a research piece: “As of November 30, 2014, the forward P/E ratio was just 11 times, and the sector was at its biggest price-to-book value discount relative to developed markets in 10 years.” If you go back in time 10 years, you will find that after EM stocks hit that low relative valuation, they went on a tear and doubled over the next three years. Will this happen again. I have no idea, and history is no indication of future returns, but smart investors all always on the lookout for “buy low and sell high.”

Be selective
Investors need to be selective in which EMs to invest in.

As a result of the free fall in oil prices, the Russian economy is headed for a train wreck. Brazil – long my favorite EM story – is stuck with a slowing economy, corruption at the upper echelons of government, and it continues to move away from the free-market policies that made it the darling of EM investors for a decade. In addition, a rising US dollar has put pressure on currencies, increasing borrowing costs, and making foreign investment less desirable.

On the other hand, there is India. The new Modi government has put the wraps on inflation, bringing it down from 11.6% in November 2013 to 5.4% for December 2014. This should prompt the beginning of interest-rate cuts and that should bring economic bounty.

There is certainly risk with investing in emerging markets, and over the short-term they can be volatile. But speak with your financial professional to investigate whether there is room in your portfolio for this asset.

The information contained in this article reflects the opinion of the author and not necessarily the opinion of Portfolio Resources Group, Inc., or its affiliates.

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Aaron Katsman is a licensed financial professional in Israel and the United States who helps people with US investment accounts.

He is the author of the book Retirement GPS: How to Navigate Your Way to A Secure Financial Future with Global Investing.


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