"Every beginning is a consequence - every beginning ends something"
Paul Valery
As I mentioned in my previous post (link), it does certainly appear as if the unstoppable outperformance of emerging markets has hit an invisible wall recently and is now coming to an end. But is it a logical result of slowing global growth, or rather simply a short term trend that is likely to reverse itself during the next several months?
Unfortunately for the global market cheerleaders, I believe that era of worry-free investing into emerging markets is coming to an end, and only those, who actively manage their allocation to specific markets/securities instead of relying on a bunch of broadly diversified international mutual funds, have a chance of repeating the solid double digit historical returns from the past several years. Market does not seem to really care about the blistering short term financial results, as was the case in the past, but instead actually is now paying attention to "formerly unimportant" quality of earnings, political risks and longer term macroeconomic projections.
So is the recent severe under performance of emerging markets at all unreasonable? Isn't Chinese GDP still growing by 10%+ a year, and Brazilian and Russian consumers are still willing to pay insane amounts of money on the bunch of unlocked 3G iPhones? Or how about the simple fact that even after a recent 20% haircut in prices of most commodities, virtually every tangible resource out there is still trading at prices much higher than a year ago? Shouldn't the cost cutting efforts of virtually every financial institution in benefit outsourcing titans of India and Eastern Europe? Not so fast.
I think the market is finally starting to realize that not all super hot growth is necessarily good. Caught up in the "high growth" at all costs, countries like China and Russia have also caught a very serious decease called inflation. And while the headline impact on the real GDP growth could be limited somewhat in the short term, due to the continued high investment levels, the longer term negative consequences are quickly becoming visible- rapidly declining corporate profit margins and shrinking trade surpluses...
Remember, our consumers are still responsible for the vast share of global demand and with US economy now closing on the zero growth territory, how could one believe that BRIC and Co economies could possibly be "immune" or "decoupled"? Not only are US consumers spending less and thus cutting into the imports, but in addition, driven by the weak dollar we now also export a lot more than we did a few years ago. Today's trade deficit report has finally confirmed what we should have all known for a while- there is no such thing as decoupling in today's global economy. And while shrinking deficit is certainly good news for the US dollar and headline GDP growth, it also reflects another phenomenon- lower demand for the foreign made goods (outside of petroleum).
Consider this- according to Calculated Risk http://calculatedrisk.blogspot.com/2008/08/slowdown-in-china.html , the number of inbound containers heading to LA/Long Beach has actually declined year over year in July? How is that for no impact to Chinese imports? So with growth in revenues of many export oriented countries on the decline or slowing, combined with skyrocketing wage and inflation around the emerging world, how long do you think would corporate profits hold up? I am not sure for too long...
And the bad news don't quite top there- strong Euro seems to have finally triggered a very severe economic slowdown in Europe, and with French, British and Germany's consumer demand slowing rapidly, emerging market economies ( and US as well) should be bracing for another immediate export blow...
But for now let's stop being negative and point clearly that every challenge also represents an opportunity. While the recent sell off in emerging markets has been widespread and did not seem to spare anyone, not all emerging markets are the same and certainly nor will all the companies within these countries suffer the same damage.
I personally now actually going to start focusing my blog www.skepticalcapitalist.com more and more specifically on Europe and the Emerging markets, instead of go-anywhere theme. And also plan to post regularly my thoughts on diverging trends on Strategy Lab with some specific ideas to take advantage of. But for now I need to slightly clean up my portfolio to make sure that it carries slightly lower risk profile in the short term...
Archive Comments (1)
I just posted on my confusion with the market, including China. My position in FXP is quite large, though the data you bring forth is compelling for the short side.
There's still a few of us SLO round 1 holdovers still keeping a close eye on VY.
---Jonathan
Posted by Jonathan Coyle August 17, 2008 6:45 PM