From thestreet.com this am, several paragraphs devoted to Brazil. If follow Evergreen's point from Friday about earnings question, why don't they post figures and then put that into formula/thesis of article would give momentum to sell-off, as if more was needed.
To use Staley's methodology, simply substitute the word 'country' for 'company.'
Market Features: Opinion: Emerging Markets Are Sinking Themselves
By Peter Eavis
Senior Writer
8/23/98 12:15 AM ET
Financial crises generate a rush of instant diagnoses.
Why did it happen? Can it be mended? What can we do to avoid such a collapse again? These are the questions most often heard in the midst of a meltdown.
This process has only just begun for one of the most widespread and destructive financial debacles since World War II: the slump in developing countries' securities markets over the last year.
Emerging stock markets -- driven down by the implosion of the Asia miracle and Russia's devaluation and default this week -- have been halved in value over the past 12 months, according to the MSCI Emerging Markets Free index. Some individual markets -- such as China, Russia and Venezuela -- are off over 70%.
But a surprisingly effective tool for diagnosing this particular Third World crash can be derived from an unlikely source: short-sellers, who borrow and then sell a company's stock, aiming to profit by buying it back cheaper when it's time to return it.
From their writings, a strong case can be made that emerging market securities were dumped for the very same reason that the stocks in U.S. companies like Cendant (CD:NYSE) and Sunbeam (SOC:NYSE) have recently been crucified: Investors discovered that they are shoddily, even fraudulently, run.
In her book The Art of Short Selling, Kathryn Staley, a noted short-seller of U.S. equities, lays out the four clues she looks for when trying to identify short candidates. To use her methodology in the emerging markets, just substitute the word "country" for "company."
Accounting gimmickry. Clues that the financial statements do not reflect the true state of the company's health. Also, overvalued assets or an ugly balance sheet.
Insider sleaze. Signs that insiders consider the company a personal bank or are in the process of selling their stock.
A gluttonous appetite for cash.
Fad or bubble stock pricing, usually marked by a stellar price rise over a short period.
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Accounting Gimmickry
The accounting excesses of pre-1994 Mexico are well-known. In 1994, the Mexican government had loaded up on dollar-linked debt, and had taken the suicidal step of simultaneously -- and secretively -- pumping money into the economy. Mexico got away with this by artfully cooking its books, just as Korea long hid the massive bad debts in its banking system.
Even today, such shenanigans are being aped. Consider China's economic statistics -- does anyone still believe that the country is going to grow 8% this year, as the government maintains?
No surprise, you may say, but even some leaders held to be paragons of democratic free-market capitalism are to be considered suspect. Take Vaclav Klaus, former prime minister of the Czech Republic and darling of countless neo-liberal think tanks. Klaus, who constantly lectured western European countries on the need to get their fiscal houses in order, was, as it turned out, keeping huge government expenses off his country's balance sheet. Some act: His government hid a total of $5 billion in public debts, it was recently discovered.
Brazil is another culprit. The country has spent the last four years boasting to investors about the transparency of its central bank and government accounts. "All the statistics you need are on our Web site," said Demosthenes Madureira de Pinho Neto, director of international affairs at the Brazilian Central Bank, at a press conference in New York just after the speculative attack on Brazil's currency, the real, in October last year.
In a bid to protect its currency in October, the government secretly sold as much as $20 billion of real-dollar forwards through the state-owned Banco do Brasil. But when I asked the director why they had not included this huge dollar exposure in the relevant place on the central bank Web site, he turned red and refused to reply.
And they're still at it. Earlier this month, the Brazilian government enraged economists by suddenly reporting its budget deficit in a new way that -- surprise, surprise -- makes the shortfall look considerably smaller. If a U.S. company did that, the market would dump it immediately.
Insider Sleaze
The elites -- be they political, business or military -- can ransack a nation. Since Russian leader Mikhail Gorbachev was deposed in 1991, capital flight out of the country has totaled some $150 billion (see The Looting of Russia), estimates Ian Hague, co-manager of the Firebird Fund, which made money earlier this year by shorting Russia's equity market.
After this week's turmoil, capital flight out of Russia will no doubt quicken, and government officials may even be aiding and abetting the process. But despite slapping on currency controls and a moratorium of foreign debt repayments, the government is said to be allowing the state-owned Sberbank -- and a couple of other favored financial institutions -- special access to hard currency, according to Moscow sources.
Gluttonous Appetite for Cash
The low-global-interest-rate environment has allowed many emerging markets to borrow huge sums in dollars to cover budget deficits they don't have the stomach to cut.
As a result, countries that have gorged on dollar debt will be in deep trouble when interest rates rise. Argentina, often cited as a model reformer, is a time bomb. President Carlos Menem came to power in 1989 promising to shoulder the pain necessary to cut government spending. Instead of making the cuts, Menem's government has let its overseas debt double to a staggering $100 billion since his arrival to office, according to Moody's Investors Service. Who pays? Argentina's beleaguered private sector, because the increased debt load means that Moody's gives Argentina debt a low rating, jacking up the cost.
Bubble Pricing
Before they started sliding last year, Asian markets were trading at nosebleed levels. At the beginning of 1997, the IFC Investable Asia Index had a trailing 12-month price-to-earnings ratio of 22. Compare that to the P/E (at that time) of the U.S. at 19 times earnings, and Western Europe at 15 times. Emerging markets as a whole -- as measured by the IFC Composite Index -- had a P/E of 18 at the start of 1997.
And yet the U.S. has never had a bankrupt state sector the size of China's (the S&L crisis notwithstanding). Nor has Europe had as inequitable an income distribution as Brazil's. And while both Europe and the U.S. have been saddled with some embarrassing leaders, our current president among them, none have experienced as damaging a figure as Indonesia's Suharto. So how is it that some of the world's brightest people -- from Templeton Funds' Mark Mobius to Morgan Stanley's Barton Biggs -- were persuaded to buy risky emerging markets at, or above, developed market price-to-earnings ratios?
In short, investors have shown an almost reckless propensity to underestimate the risks inherent in emerging markets -- even at times of high crisis.
Take the rush back in to Russia in the second half of July after the IMF-led rescue package. The stock market soared 30% and analysts from Goldman Sachs, which was organizing a lucrative bond swap for the Russian government at the time, made this optimistic appraisal of the country to clients in a July 21 note:
The recent IMF agreement provides support for the ruble and further reform efforts. In this respect, we believe there is a real commitment from the new administration and international financial community to continue with the necessary reforms to improve the outlook for the macro-environment in Russia.
The speed with which Goldman was prepared to back Russia again may seem startling. But it's symptomatic of the soft-headed orthodoxy in the industry. It was only 1994, you recall, that Biggs laid the groundwork for the most recent bubble when he said: "What is happening in the emerging markets is not a mania, like the Mississippi Bubble in the early 18th century. It's a fundamental development, like the rise of the U.S. in the 19th century or the rise of Japan in the second half of the 20th century." Investors taking this advice have watched their portfolios drop, on average, about 3% a year since.
That hasn't fazed Biggs. A July TheStreet.com story looked at stock picks that Biggs had made during the Barron's Roundtable in February this year. His portfolio had collapsed by 30% by mid-July, dragged down by Thai stocks.
With advice like this, it's little wonder that investors in emerging markets would have learned more from a book by Staley, a Kentucky girl who makes no pretension to know anything about international markets, than they can from the so-called experts. Time for a reformation.
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