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Emerging markets update

Investment | Shares

By Justin Modray, published 20 February 2011.
Helpful? 29

Stockmarkets in emerging countries have generally fallen back around 5-10% so far this year. Should you be worried if you're invested in these regions?

The driving force behind the recent falls seems to be a combination of Middle Eastern turmoil and inflationary worries prompting investors to withdraw billions of pounds of investments from these regions.

But are either a serious problem?

The Middle East's main influence on global markets is oil. If supply is curtailed oil prices will likely rise. While this might help big oil exporters like Brazil, it could push up costs in China and possibly reduce growth. So the only serious Middle Eastern issue, as far as markets are concerned, is whether the troubles will affect oil supply. We might see some shorter term blips, but I doubt supply will be affected longer term. This would probably only happen if an extreme anti-US Government came  to power in the region, which doesn't look likely. And, let's face it, if they did the US would probably try to destabalise it quite quickly!

High inflation is arguably a more serious problem, as Governments usually try to counter this by tightening their purse strings and/or raising interest rates - both risk slowing economic growth.

The dominant imflationary drivers have been rising oil and food prices, but it's mainly the latter that's spooking emerging markets investors - a typical emerging country consumer spends about 20% of their income on food (versus around 7% in the West). So higher food prices mean less income to spend on other things, thwarting the anticipated growth in domestic consumer demand that's been helping drive these markets upwards. 

But I'm not convinced the current wave of rising inflation is here to stay. While there's little doubt emerging markets growth could push up food prices longer term, the recent rises are more due to bad weather hurting crop production. If the weather is better this year then food prices should generally fall back to more usual levels. And while oil prices are very difficult to predict, a big, sustained, short term rise from where we are now doesn't look that likely unless the Middle East situation really deteriorates (longer term rises from growing global demand are another matter...).

Emerging market inflation is always going to be a bit of problem, as it's often a price to be paid for fast economic growth (if there's more money in the system then, in general, it'll push up prices). But I think there's a good chance it will fall back to acceptable levels over the next year.

I've got a lot of emerging markets exposure in my pension but I'm not losing sleep over the recent volatility, especially as I'm investing for at least 15-20 years.

In my view investing in emerging markets is all about buying into the big picture longer term. Regardless of which emerging market we look at, the story is usually the same.

Emerging  countries grow quickly from being able to supply something that the rest of the world wants, whether it be oil, crops, or cheap goods and services. And rising global demand results in more jobs being created and more money flowing into the region.

Their governments typically use some of this new found wealth to build up their country's infrastructure, causing a  surge in demand for raw materials (especially in the case of China) but also creating lots more jobs.

Over time, this makes the local population richer (the extent depending on that country's wealth distribution policies), giving them more money to spend on goods and services - most of which will be supplied by companies in that emerging country.

This growth in domestic demand usually benefits financial services (e.g. banks accounts, credit cards, loans and insurance), energy (e.g. fuel for cars and greater electrical consumption), telecoms (e.g. mobile phones and internet) and consumer goods/services (e.g. electrical goods, shops and leisure) companies the most. So it's little surprise to see that most emerging markets investment funds focus on these sectors, in addition to the dominant sector(s) that's making the country more prosperous in the first place.

Yes, there's a lot that could wrong along the way, but these countries are a bit like juggernauts and it would take a seriously rocky road to push them well off course. I don't particularly like volatility but it's part and parcel of emerging market investing. You just have to invest for long enough to ride out the hiccups that will invariably strike from to time. And, if you end up making a lot of money short term that's a bonus.

So if you have emerging markets investments I wouldn't panic and sell. Yes, there's a risk you could lose more money, but I think the long term prospects remain compelling. And if you're able to accurately time getting in and out of these markets to maximise short term profits then your crystal ball obviously works far better than mine!

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Readers' Comments (2) - To post a comment please register or login .

Comment by brianc at 12:45am on 22 Feb 2011:

I have to say how much I appreciate your web-site. I have also to admit that I had to read the above article twice to put everything into perspective. This was not down to your explanation it was solely down to my inexperience in the world of "high finance".
I expect I am like most folk, trying to make the best use of the limited cash we have to invest. It is therefore really good to hear the views of an experienced IFA. Thanks again.

Comment by justin at 7:42pm on 23 Feb 2011:

Thanks brianc, glad you found it helpful.