During the last year or so, emerging markets have been left for dead.
But how quickly things can change. Mutual funds added $13.2 billion of exposure to emerging markets in May, signaling a sharp reversal and potential rally.
I refer to some of the best-performing countries so far this year as “motorcycle markets” because they have more motorcycles than cars on the road. India is up 16%, Indonesia has gained 18%, and Brazil has bounced 16% as well. Even Russia has jumped 14% in the last month.
Part of the reason for the jump is that these markets were trading at valuations of about 70% of the S&P 500 despite a much higher growth rate.
In addition, political events such as the election of Prime Minister Modi in India and the upcoming presidential election in Indonesia have made investors optimistic that market reforms are on the way.
One thing I have learned over the years is that these markets run on momentum rather than fundamentals — though the big picture remains attractive for growth investors.
And for those with the foresight to look further out on the risk-reward spectrum, frontier markets in particular offer investors a combination of great value, huge upside, and unique challenges.
As giants like China run into growing pains, higher costs, and negative returns, frontier markets are up, propelled by more political stability and easy access to modern communications, technology, and capital.
The case for investing in frontier markets, which are up 20% so far in 2014, is simple and powerful: the world is filling in, and these countries are catching up fast. Frontier countries are far behind developed countries like Japan and America and are even playing catch up with the likes of Thailand, South Korea, and China — which means now is the time to get in.
Imagine you had a chance to invest in the China of 1980, when wages were at rock-bottom levels and the nation exported in a year what it now does every day. Your return would have been huge.
Youthful populations and the move of workers from rural areas to higher income jobs in the cities are supercharging growth in these economies. The median age of many of these countries is at the demographic sweet spot of 25 years, compared to 35 years in China and South Korea and 45 years in Germany and Japan.
This explains all the small kids hanging onto their parents on motorbikes and the optimism driving family purchases of new houses, new washing machines, new refrigerators, new cars, and better food and medical care.
This, in turn, explains why big companies from Japan, China, America, Europe, and South Korea are falling over each to invest in frontier Asia.
And it’s not just lucrative new consumer markets and rising tourism that’s driving this wall of capital… it’s also the need to access the region’s ample natural resources.
The evidence of this optimism and virtuous cycle of growth is everywhere. Since 2009 and the cooling of its civil war, Sri Lanka’s GDP has surged 40% and is now double that of India on a per capita basis.
The 12th largest shopping mall in the world is in Dhaka, Bangladesh, and a $20 billion energy investment by Exxon Mobil in Papua New Guinea has the potential to double the size of its economy.
But like maneuvering a motorbike in and out of chaotic traffic, investing in these markets requires experienced and steady hands. You need to act on the best on-the-ground intelligence and keep a close eye on both politicians and tycoons.
I highly recommend WisdomTree Emerging Markets Equity Income (NYSE: DEM), which is a basket of the highest dividend-paying emerging market stocks. As you might expect, it outperforms in weak markets and underperforms in strong ones.
This lower volatility is just what I think most investors are looking for in emerging markets. In addition, it consistently outperforms the leading emerging market index.
Emerging markets are on the move — get a piece of the action now.
Until next time,
Carl Delfeld for Wealth Daily
