Emerging Markets, Down Now, May Offer Bargains

The New York Times
By CONRAD DE AENLLE
Published: January 10, 2009
THE love affair with emerging markets has turned cold. Stocks everywhere had a horrible year, but the performance in developing economies was especially bad, and the bigger they were, the harder they fell.
The MSCI Barra BRIC index, comprising companies in the four largest emerging economies — Brazil, Russia, India and China — lost 60.3 percent in 2008. That compares with 54.5 percent for the broader-based MSCI Emerging Markets index and 38.5 percent for the Standard & Poor’s 500-stock index.
If the sellers tried to explain their disenchantment with the BRICs and the rest of the developing world, the best way might be to invoke that most unsatisfying of excuses: “It’s not you, it’s me.”
Many global crises of the past have arisen in emerging markets. Poor political and economic judgment led to excessive debt, shrunken corporate profits, much weaker growth and widening imbalances in fiscal and trade accounts.
There are similar troubles today, but they started in the mature Western economies, which are suffering from huge indebtedness, defaults and recession, and ballooning fiscal deficits created by kitchen-sink stimulus plans. In emerging countries, by contrast, economic output continues to grow, albeit more slowly than before, and finances are sound, supported by prudent policies and huge and expanding stockpiles of foreign currency.
“The shoe is on the other foot,” said Mark Mobius, executive chairman of Templeton Asset Management. Recalling the most serious global financial breakdown before this one, he added: “During the ’97-’98 crisis, Asian companies and banks owed U.S. dollars and not the other way around. Now countries have tremendous foreign reserves and are in a much stronger position.”
Investment advisers and international organizations forecast economic growth to be 6 percent or more this year in China and India and a few percentage points less in Brazil and Russia. In the United States, Japan and Western Europe, the recession is expected to linger for much of the year.
Jonathan Bell, a manager of the Forward Emerging Markets fund, is interested in differences among the BRICs, not just between them and other markets. He expects long-term growth rates and share-price performance to diverge across the BRICs because of differences in the quality of political leadership. In his view, China and Brazil are very well run, Russia is not and India is somewhere in between.
The connection among the four has always been tenuous. Their industrial bases, political systems and overall progress varies, but they are populous countries that have narrowed the development gap with wealthier, more mature ones. Those similarities enabled investment firms to package and sell them as ready-for-prime-time emerging markets.
But not lately. The resilience of the BRICs and other emerging economies has not kept the public from dumping their stocks aggressively. Investment advisers attribute the weakness to a general aversion to risk, which keeps money flowing into assets deemed safe and close to home, like Treasury bonds, and out of anything volatile and far away.
Beyond that, investors in mature economies need the money. Forced selling by hedge funds and others with heavy losses and unwieldy debt loads is also thought to have played a role. The BRIC markets have been hit especially hard because they are dominated by large, actively traded companies that are easy to sell — but they also tend to benefit first in a rebound.
“When confidence globally comes back, it’s the BRICs that will lead the recovery,” predicted Josephine Jiménez, chief investment officer of Victoria 1522 Investments in San Francisco. Confidence is still hard to glimpse, but as the financial crisis plays out, stocks in the spurned BRIC markets are starting to look desirable again to fund managers and strategists. With global conditions still unsettled, however, some prefer to play hard-to-get and not rush into anything.
Simon Hallett, co-manager of the Harding Loevner Emerging Markets fund, became cautious last year, sooner than many of his peers, but low valuations after the “sharp and brutal reversal” are turning him bullish again.
“The risks in the world are in the U.S., U.K. and the fringes of Western Europe,” he said, concurring with Mr. Mobius. By contrast, “investors are starting to get paid to take emerging-market risk. I don’t think the risks have gone up as much as prices have gone down.”
Mr. Hallett says he is interested in “high-quality companies taking their place on the global stage,” and he finds many of them in the BRIC markets. A prime example is Petróleo Brasileiro, or Petrobras, the Brazilian energy company that has grown fast enough to enter the major leagues and compete against the likes of Exxon Mobil and Royal Dutch Shell.
“Petrobras is a very good company that happens to be in an emerging market,” he said. “It’s a world leader, and it’s had a tremendous year in terms of finding assets.”
Petrobras is also a favorite of Ms. Jimenez, who is heavily invested in commodities. Her selections include several mining companies, notably Companhia Vale do Rio Doce known as CVRD, and Usinas Siderurgicas de Minas Gerais in Brazil, Polyus Gold in Russia and Zijin Mining and China Molybdenum in China.
Among her other selections are Banco do Brasil and Trisul, a Brazilian property developer.
Ms. Jimenez is steering clear of India, whose stocks she finds expensive, but Mr. Hallett has several holdings there. He praised the country’s leaders for sound economic management during a difficult time, although he wishes that they would upgrade the country’s roads and other infrastructure.
His favorite stocks include the banks HDFC, Icici and Axis, as well as Hindustan Unilever, a large provider of consumer staples.
With so much of the world struggling, Mr. Bell, at the Forward fund, is concentrating on defensive sectors like telecommunications and utilities. His largest holdings include China Mobile, the Russian phone service provider Mobile TeleSystems and Bharti Airtel in India.
“We don’t think things are going to turn around in a V-shaped recovery,” he said.
Mr. Mobius said he was “very positive for markets generally, not just emerging markets,” but he did express some caution.
He said he expects the BRICs to attract new money when investors realize just how cheap these markets are and when it becomes clear that economic stimulus plans are starting to work. While he waits, he prefers defensive plays in consumer industries, like Natura Cosméticos in Brazil and China Green Food, a maker of processed foods.
Another way to emphasize safety, he said, is to own enormous blue chips, companies “that will survive and thrive” through the global crisis. He highlighted China Mobile and a quartet of energy suppliers: PetroChina and Sinopec in China, Lukoil in Russia and, in one more vote of confidence, Petrobras.
ROBERT ARNOTT, the chairman of Research Affiliates, an investment management firm in Los Angeles, says he expects “a fast recovery in emerging markets because there’s more room for growth.” He says he is not sure when it will start, however, so the heavy dependence on exports, especially commodities, in the BRIC economies makes him wary enough to advise avoiding stocks there for now.
A better alternative for him is sovereign and corporate debt. Many issues offer “juicy yields” in the low double digits, he said.
Looking further out, Mr. Arnott becomes more hopeful about BRIC stock markets. He doesn’t recommend them for a casual fling, but he thinks they are ideal for a long-term relationship.
“Investments made today might be regretted one year from now,” he said, “but they won’t be regretted five years from now.”