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What has changed from 1997-98 to 2007-08? The fundamentals of the economies of the developed countries have deteriorated, and those of the developing countries have improved. And please note I'm not talking about temporary changes that are a result of the current recession.
- Emerging countries concluded after the 1998 crisis that they needed to run up big foreign-reserve balances so they wouldn't be at the mercy of international investing flows again. And they have. China is the most obvious example, with something like $2 trillion in reserves. But the list of big surpluses goes on and on. Thailand, the locus of the 1998 currency crisis, finished August 2008 with $101 billion in foreign-currency reserves, according to the International Monetary Fund. Brazil had $206 billion as of the end of September. Russia's reserves stood at $556 billion at the end of that month.
- Developed countries continue to run huge trade deficits. Even with the huge drop in the price of oil and a slowdown in the U.S. economy that cut into imports, in September 2008, the U.S. ran an annualized trade deficit of $684 billion. France recorded a record trade deficit in September, and the United Kingdom set its own record trade deficit in July. Even such perennial trading powers as Japan are showing smaller surpluses and are likely to slip into deficit in 2009.
- Growth rates in the emerging economies are substantially higher than in developed economies. The forecasts by the International Monetary Fund, the World Bank and the Organisation for Economic Cooperation and Development agree on a decline of 0.3% for the developed world's economies in 2009 and growth of 4.5% for the economies of the developing world. The difference seems permanent in up and down economies. In the good times of 2005 and 2006, for example, the world's developed economies grew 4.9% and 5.5%, respectively, but the world's developing economies grew 7.5% in 2005 and 8.1% in 2006, according to the International Monetary Fund.
- Developing countries have improved their credit ratings recently. Brazil is the poster child for this change. In April 2008, the country earned its first investment-grade credit rating when Standard & Poor's upped its rating on the country to BBB- from BB+.
- Can anyone doubt that the U.S., Japan and other developed economies such as Italy are headed in the other direction? A list of the chronic problems facing the world's developed economies -- budgets badly out of balance, swollen and growing government debts, and vast government obligations that increase as populations age -- sounds remarkably like the charges that used to be leveled at countries such as Brazil. It's shocking to think that the U.S., Japan and other developed countries could be on the verge of not just one credit downgrade but of multiple downgrades. Shocking, yes. But definitely thinkable.
- The recent rally in the dollar on panic in the world's financial markets isn't built on long-term fundamentals. Lower economic growth and the need to finance huge borrowings to cover the trade deficit and the bill for the financial debacle indeed tell me that once fear has retreated, the U.S. dollar will move lower again. And the currencies of the world's developing economies will resume their march upward against the dollar. That, of course, will give a boost to the returns earned in developing countries' stock markets by U.S.-based investors.
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For all these reasons, I think we're looking at a period when the returns to U.S. investors from investing in the stock markets of the world's emerging economies will outpace the returns they would earn in the U.S. market.
Not all emerging markets, of course. I'd avoid the Russian market, for instance, which the current crisis has revealed to be a pyramid built on loans, collateralized by shares and then invested in buying yet more shares. (Hmm. Remind you of anything closer to home?)
And not quite yet. The panic that still rules global financial markets has produced a flight to the U.S. dollar that has resulted in a huge sell-off in non-dollar-denominated assets. I'd say that the sell-off is way, way overdone and that based on their prospects for future growth, the world's emerging stock markets are selling at fire-sale prices, but as any experienced value investor knows, cheap can always get cheaper. I'd wait until I see the dollar rally ending. Stability or even a slight dollar decline would be a sign that it would be time to start nibbling in emerging stock markets.
What should you buy? I would build a portfolio in emerging stock markets like this:
- Start with an exchange-traded fund such as iShares MSCI Emerging Markets Index (EEM, news, msgs) that follows the MSCI index. That will give you a core exposure to the developing world.
- Then add country ETFs in the most promising emerging markets. I'd pick Brazil, using iShares MSCI Brazil Index (EWZ, news, msgs), and South Africa, using iShares MSCI South Africa Index (EZA, news, msgs).
- And then, as icing, add individual stocks from emerging markets. I've already added a few to my watch list (see the end of this column): Suntech Power (STP, news, msgs) and China Medical Technologies (CMED, news, msgs) in China, and Banco Itaú Financeira (ITU, news, msgs) in Brazil. Another good pick in Brazil would be Petrobras (PBR, news, msgs), the national oil company. You should also take a look at HDFC Bank (HDB, news, msgs) in India and South Africa's Standard Bank, which, unfortunately, trades only on the Johannesburg stock exchange.
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What is the Treasury thinking?The Treasury is putting US taxpayers on the hook for an additional trillion dollars. Unfortunately, Jim Jubak says, this rescue plan for consumer lenders uses the same kind of debt that led to the bailout of Fannie Mae and Freddie Mac.
But remember, don't buy anything yet. With this column I'm adding HDFC Bank, iShares MSCI Brazil and iShares MSCI South Africa to my watch list.
I've spent the past few columns talking about specific sectors and markets that investors should own if they want to rebuild their portfolios after the bear market. (All of you who don't want to rebuild your portfolios don't need to read further.) In my next column I'll talk about what I think will happen in the financial markets after the bear and give you my general strategy for approaching the post-bear market.
And yes, Virginia, one day the bear market will be over, and you do need a strategy for life after the bear.
Developments on a past column
"Be ready for the commodity comeback": The steady drip, drip, drip of cancellations in the energy sector is becoming a flood.The latest numbers come from the refinery industry. Four out of five refinery construction projects now face cancellation, says energy consulting firm Wood Mackenzie. Only 30 of the 160 refinery projects announced since 2005 will be completed in the next two to seven years, according to the firm.
Almost all of the 30 projects still on track for completion belong to big national oil companies. Those projects are set to add 12 million barrels of refinery capacity to the global industry, with most new capacity scheduled for Asia and the Middle East. In contrast, capacity in Europe and the U.S. is likely to remain steady in the long term and fall in the short term as companies shutter unprofitable refineries.
Jubak's watch list
Investments to consider in a few months or quarters:iShares MSCI South Africa Index
Editor's note: Jim Jubak, the Web's most-read investing writer, posts a new Jubak's Journal every Tuesday and Friday. For the duration of the financial crisis, he will publish a third column whenever he gets really, really angry. Please note that recommendations in Jubak's Picks are for a 12- to 18-month time horizon. For suggestions on helping navigate the treacherous interest-rate environment, see Jubak's portfolio of Dividend Stocks for Income Investors. For picks with a truly long-term perspective, see Jubak's 50 Best Stocks in the World or Future Fantastic 50 Portfolio. E-mail Jubak at jjmail@microsoft.com.
At the time of publication, Jim Jubak owned or controlled shares of the following companies and funds mentioned in this column: China Medical Technologies, iShares MSCI Brazil, iShares MSCI South Africa, Petrobras and Suntech Power. He did not own short positions in any company or fund mentioned.
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