For Emerging Markets, a Move Toward Maturity
By CONRAD DE AENLLE
Published: October 14, 2007
WHEN the midsummer credit crisis unfolded and global stock markets sank, emerging markets were praised for their resilience. Their comparative strength was taken as a sign that economies in the developing world could make it on their own and were no longer dependent on exports to the West.
ELMAT: also known as decoupling.
Then, in September, when the Federal Reserve cut interest rates by more than investors had anticipated, emerging markets continued to outperform. Traders acted as if anything that helps the American economy helps the developing world, too, but that an enfeebled economy here does no harm there..
ELMAT: No matter what: No flight for Quality!
That apparent Wall Street consensus suggests just how far emerging markets have matured and broadened — or, at least it does for those who are bullish on those markets. For bears, however, it is evidence that current expectations are unrealistic and that these economies and markets are more susceptible to adverse conditions elsewhere than is widely thought.
Simon Hallett, co-manager of the Harding Loevner Emerging Markets fund, is one of the bulls, though he acknowledges a discomfiting historical connection between developing and developed economies. A global slowdown tends to lower demand for consumer goods and commodities, two classes of products whose exports underpin emerging-market economies.
“The cliché has been that when America sneezes, emerging markets catch cold,” Mr. Hallett said.
ELMAT: US absorbs USD20bn of Brazi'ls. Poor countries absorb USD75bn. But there's more: Next week, the Brazilian president Luiz Inácio Lula da Silva will travel to Africa, where he will visit four countries: Burkina Faso, the Republic of Congo, South Africa, and Angola. Besides becoming closer in cultural and political terms, Brazil is interested in strengthening economic and commercial ties with the African countries, especially in the fields of energy and mining.
It is called changing the geography of trade.
But the prognosis may be different this time, in his view, because of the vigorous expansion of domestic consumption in many emerging-market economies. The huge piles of cash that their governments have in reserve could also smooth over fallow periods by being put to use to build infrastructure or for other expensive public works projects.
ELMAT: Just a move from external to internal growth. Good overall: will suck imports from the US/Eurolad and Japan.
“I’m not going to tell you they’ll be absolutely insensitive to a slowdown in the United States, but they will be less sensitive to them,” he said. “You’ll see a slowdown, but not the catastrophic decline that has led to financial crises in the past.”
Also using history as a guide — and just as a rough one, too — Michael Hartnett, global emerging-market equity strategist at Merrill Lynch, cautioned that a Fed rate cut could be a negative sign for emerging markets. Mr. Hartnett said in a note to clients that when the federal funds rate is adjusted, share price indexes in the developing world tend to move in the same direction, as both the Fed and emerging-market investors react to changes in the economic cycle.
But he is inclined to minimize the significance of the correlation this time around. The global boom has produced especially big benefits to emerging-market economies, so it would take an especially big slowdown in the United States to derail the bull market, he reasoned.
Such a downturn is not out of the question, Mark W. Headley, president of Matthews International Capital Management, a specialist in Asian markets, said in explaining his cautious stance.
He calls the American housing market “a bottomless pit at this point,” and he does not have high hopes that the rate cut last month will reverse, or even significantly limit, the damage.
“A consumer-led slowdown in the United States is going to have an impact on global growth and on a lot of Asian economies,” he said. “I don’t think anyone’s going to be impervious to it.”
The investment choices that fund managers make in emerging markets tend to conform to how upbeat they are about the global economy and just how resistant they expect companies in those markets would be to any pervasive slump.
Jerry Zhang, manager of the Evergreen Emerging Markets Growth fund, is optimistic, if not brimming with confidence. “The U.S. represents the biggest cyclical risk within a structurally O.K. story,” he said, offering a thumbnail sketch of the economic backdrop. He thinks that shares of commodity producers will continue to excel in such conditions.
Among his favorites are two companies in Brazil: the iron ore miner Companhia Vale do Rio Doce, known as C.V.R.D., and the energy company Petróleo Brasileiro. In Eastern Europe, he likes the Russian energy producer Lukoil and KazMunaiGaz, which is a rough equivalent in Kazakhstan, the former Soviet state.
Mr. Zhang also has a high and far-flung regard for banks, including Sberbank, the big Russian savings bank; ICICI Bank in India and China Merchants Bank.
Mr. Hallett also likes commodities producers, but he prefers his commodities to be comestible instead of industrial. His thesis is that China and India will devote enormous resources to keeping citizens in the countryside instead of streaming into already overcrowded cities, and that this will require expanding the supply of food and water.
“There is a wonderful arbitrage where China is very short of water and faces the possibility of being short of food, while Brazil is the Saudi Arabia of water,” Mr. Hallett explained. “There is a very interesting increase in trade in soybeans from Brazil to China.”
Potential beneficiaries of this trend include América Latina Logística, a provider of transportation services for Brazilian railroads; Israel Chemicals, which produces potash for fertilizer; and the IOI Group, a Malaysian purveyor of palm oil.
Thomas A. Mengel, manager of the Ivy International Growth fund, is extremely bullish on emerging markets. He goes so far as to suggest that a slowdown in the United States would be a boon to China by cooling off an economy growing at an otherwise unsustainable annual rate above 10 percent.
“In a soft-landing scenario, China should do well, even if exports to the U.S. slow,” he reasoned. “Domestic demand is going up strongly, so the economy can continue to grow at a fast pace as long as the U.S. doesn’t go into recession. Maybe 9 percent to 10 percent growth wouldn’t be a bad thing.”
MR. MENGEL’S portfolio is heavily invested in Asia, and he mentioned a number of companies based in and around China as particular favorites, including the phone company China Mobile; the Hong Kong clothing maker Esprit; Agile Property, which does business in mainland China but is listed in Hong Kong, and the Internet portal operator Sina.
Selections elsewhere include the mining companies Rio Tinto and BHP Billiton, and he casts another vote for ICICI Bank.
Mr. Headley of Matthews International prefers stocks and markets that are comparatively shunned by investors. He likes DBS Bank in Singapore, Korean banks generally and “Hong Kong companies that are not crazily overvalued and are participating in the China story,” like the conglomerate Swire Pacific, which has interests in Cathay Pacific Airways and Hong Kong real estate.
He is cautious about Chinese-listed stocks and others in the developing world that he considers to be trading on very high valuations.
“Aren’t these stocks priced to perfection?” Mr. Headley said. “I don’t think it would cause much of a hiccup from any direction to pull many of these things down.” |
