In 1374, Geoffrey Chaucer said, “All good things must come to an end.” It’s likely he wasn’t speaking of the emerging market slump, but it sure is fitting.
Up until now, there’s been a lot of excitement over the growth of the BRICs (Brazil, Russia, India, China, and South Africa). People everywhere were in awe over the populations growing like crazy, which was feeding the economy. It was projected that by 2020, China would be the largest market in the world.
It’s all over now though, according to Nouriel Roubini.
Last year, Brazil only saw a 1% growth. This year, analysts predict maybe 2%. That’s only 3% in two years. The same goes for Russia, despite its staggering oil prices. India has come to an incredible slow down, going from 11.2% in 2010 to 7.7% in 2011 and then 4% last year. South Africa grew 2.5% last year, but has also slowed; it may not even reach 2% this year. Finally, China has had 10% growth for the last 30 years, and it only had 7.8% last year.
What Happened to the Emerging Markets?
Nouriel Roubini lays this out in his article for the Project Syndicate:
“Some factors are cyclical, but others – state capitalism, the risk of a hard landing in China, the end of the commodity super-cycle – are more structural. Thus, many emerging markets’ growth rates in the next decade may be lower than in the last.”
It’s the case of growing too big too quickly. 2010 seemed like a great year for emerging markets with booming growth. However, it led to rises in inflation and exceeding targets. This caused them to put the brakes on by tightening monetary policy the following year. The tightening stifled growth, and it’s now trickling into 2013.
The BRICs aren’t isolated from the recessions in Europe, Japan, and the slow economic bounce back of the United States. Trading, financial links, and investor confidence has all played a role in the emerging market decline.
State capitalism is to blame as well. Reforms have slowed the productivity of the private sector, economic share, and enterprises.
The Effects on the Rest of the World
Former Premier Wen Jiabao described China’s economic slowdown as a depiction of its “unstable, unbalance, uncoordinated, and unsustainable” model, as Roubini’s article notes. Now, other countries that didn’t have such a disorganized model in Asia, Latin America, and Africa are getting hit with the consequences.
Countries that usually had surpluses are now dealing with deficits. In panic, these countries (Turkey, South Africa, Brazil, and India) are financing in ways that increase debt more than equity. It’s producing short term debt as well as foreign current debt. In the long term, this could lead to even more economic trouble.
Brazil is raising interest rates, and Indonesia cut fuel subsidies, which raised gasoline prices 44 percent, Bloomberg reports. People are not happy, to say the least, and they are frightened this will only cause a further slowdown leading to additional cuts, higher interest rates, and other financial repercussions.
While many countries are feeling the detrimental effects of declining emerging markets, others are experiencing growth despite it. The Latin American region is experiencing an expansion of the middle class. Approximately 50 million people have been able to step out of poverty, defined as earning more than ten dollars a day.
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While many people may suspect this will have investors running away from the emerging markets, that is not the case, according to market strategist Rich Bernstein. Emerging-market companies are not showing much of an effect from the slowdown, and that may mean that investors are still holding out hope.
What many investors worry about is whether all of the slowdown will affect stocks and bond markets. Bernstein doesn’t think so. He believes U.S. stocks will outperform.
In fact, the U.S. may actually benefit from the slump because of drops in commodity pricing, which will increase consumer spending and corporate profit margins.
Investors Plan of Action
Bernstein’s optimism in the U.S. stock market leads to small and mid-cap share recommendations. Smaller industrials are some of the best to invest in due to the increase in manufacturing.
U.S. stocks aren’t the only plays investors are considering. They are setting their eyes on frontier markets too, particularly in Asia and Africa. Global investment strategist Sean Lynch told the Boston Globe these countries are insulated from the problem of the emerging markets right now. While it scares some investors, these countries are growing rapidly, so there’s a good chance they could be profitable.
Dollar-dominated bonds are also a good choice for investors. Joyce Chang from J.P. Morgan (NYSE: JPM) reports that U.S. Treasury yields changed rapidly, and this will end up in returns of 5% to 6% for 2013. Local currency dominated bonds are also a good choice, with 8% to 9% return.
So as we see the end of the emerging markets boom, we see a rise in other markets. Just as every good thing must end, when one door closes, another opens. Investors will likely turn away from emerging market investments but enter into others such as U.S. stocks, bonds, and frontier markets.
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