Emerging Markets, Setting a New Pace

The New York Times
By CONRAD DE AENLLE
Published: April 11, 2009
THERE is a natural order to stock market chaos. When investors panic, they often sprint away from emerging markets first and return only at a dawdling pace, after a global rebound is well under way.
Everything went according to plan last year. Many markets in the developing world lost far more than half of their value, compared with a 38.5 percent decline in the Standard & Poor’s 500-stock index.
In the first quarter this year, however, emerging markets lost less as the decline continued and gained more in the recovery that began early last month.
Stock indexes in markets like China, Brazil and Russia ended the first quarter with double-digit percentage gains, although the weakness of some emerging-market currencies limited returns for American investors. The S.& P. 500, by contrast, fell 11.7 percent.
The average emerging-market equity fund in Morningstar’s database fell 1.7 percent in the period, compared with an 8.3 percent loss for the average United States general stock fund.
Investment advisers caution against reading too much into the discrepancy. Stocks everywhere may be experiencing a dead-cat bounce, with ones in the developing world merely gaining a bit more altitude after their initial drubbing.
“Emerging markets really took it on the chin last year, so it isn’t that much of a shock that they have been more resilient this year,” said Ben Inker, head of asset allocation at GMO, a global investment management firm.
But he and others contend that there is more to the rally. They take it as a sign of fundamental strength in emerging economies.
Severe periods of underperformance in the past have been deserved, they say, and were not just a matter of risk aversion. This time around, emerging markets seem to be the strong link in an otherwise flimsy chain.
“Fundamentals are much better in parts of the emerging world than in the developed world,” said Thomas Melendez, manager of the MFS International Diversification fund.
“Some would argue that some developed markets are bankrupt,” he said. “Emerging markets have very little debt at the government, company or individual level.”
In other words, many emerging markets got stronger by getting smarter.
“Companies, for the most part, are pretty solid with strong balance sheets and lots of cash because they were being cautious in view of what happened in the past,” said Mark Mobius, executive chairman of Templeton Asset Management. The same goes for governments, many of which have built up huge foreign-exchange reserves.
The lower debt and abundant cash mean that some of the larger developing countries are burdened with fewer financial and economic problems than more mature ones. That allows them to tackle their problems more aggressively. China is an oft-cited example.
“I still think there is a strong case for China doing better” than other markets, emerging or mature, said Edmund Harris, manager of the Guinness Atkinson Asia Focus fund. By preventing banks from engaging in some practices that proved so disastrous elsewhere, the country “has protected itself to some degree,” he said.
“That provides a stable base through which China can stimulate its domestic economy,” he added.
JUST how much stimulation China needs is debatable. Josephine Jiménez, chief investment officer of Victoria 1522 Investments, notes that some economists predict 6 percent growth in Chinese economic output this year and that the government expects its efforts to support the economy to result in 8 percent growth.
Other developing countries will be hard pressed to match either number, but Ms. Jiménez expects growth in many of them to come in well ahead of what mature economies will attain. That growth comes cheap, in her view.
“I’m finding a lot of companies trading below their breakup value,” she said, meaning that their market values are lower than what the companies’ net assets likely would fetch in acquisitions.
She prefers sectors like gold mining, telecommunications and food production. Her portfolio includes such holdings as Zhaojin Mining in China; Shoprite Holdings, a fast-growing retailer in such countries as Botswana and Madagascar; and Rainbow Chicken, which supplies four million broiler chickens a week in South Africa for a 30 percent share of the market.
Mr. Mobius, at Templeton, also finds emerging markets extremely cheap. “We’re like kids in a candy shop,” he said. “Everywhere we turn, we’re finding bargains.”
He favors energy companies, including Petrobras of Brazil and PetroChina, and banks like the Industrial and Commercial Bank of China, China Construction and Banco Itau in Brazil.
Mr. Melendez, the MFS fund manager, says he thinks that buying technology stocks is a way to capture a recovery in the global economy.
“If we do come out of this malaise, we’ll probably see a replacement cycle, which would be good for parts makers,” he said.
South Korea is an especially good play on global growth, said Mr. Inker of GMO. But he reminds investors that most emerging markets, with their emphasis on commodities and manufacturing, amount to a bet on a stronger economy.
He does not know whether such a bet will pay off, but he likes the odds that the markets are offering.
“It helps to be priced for destruction,” he said. “It’s never too much of a surprise when cheap stocks go up.”