Emerging Markets Radar (July 30, 2012)

Sunday, July 29th, 2012

Emerging Markets Radar (July 30, 2012)

Strengths

• The HSBC China July Flash PMI improved to 49.5 versus 48.2 in June, though it is still below 50. The manufacturing sub-index moved above 50, suggesting de-stocking pressure is lessened.
• The Nanjing local government announced supportive measures to provide an easy mortgage facility for first-time home buyers who participate in the city’s Provident Housing Fund. Although the central government has been making stern talks to continue to curb the housing market, its differentiated housing policy will stay and first-time home buyers will be supported by better mortgage rates.
• The Shangsha local government initiated Rmb 829 billion investments in 195 projects. This may show the ability of China to support economic growth. These projects are positive to commodity and machinery producers.
• Singapore industrial production jumped 7.6 percent in June, rising far more than the estimate of 2.8 percent growth. Increased pharmaceutical output countered a decline in electronic shipments.
• The Philippine central bank surprised the market by cutting its interest rate by 25 basis points to a record low 3.75 percent. The Philippines also reported a budget deficit of $278 million in June, mainly to improve the country’s infrastructure.

Weaknesses

• The Bank of Thailand, the central bank, kept its benchmark rate unchanged at 3 percent, but revised GDP growth down from 6 percent to 5.7 percent for 2012 due to collateral impact from external factors. Thailand’s industrial production dropped 9.6 percent, and exports fell 2.5 percent in June.
• Hong Kong June trade growth missed expectations. Exports were down 4 percent year-over-year and imports were down 2.9 percent.
• Korea’s second quarter GDP expanded 2.4 percent, growing at the slowest pace in almost three years, below the median estimate for a 2.5 percent gain.

Opportunities

• Turkey and some other high-yielding emerging market countries (such as Russia) may find themselves the beneficiaries of Japanese investor interest previously directed at Brazil. Barclays estimates that potential portfolio flows to Turkey from Japan could reach $5 to 6 billion per year, or the equivalent of 0.8 percent of GDP.

• Philippine infrastructure investment has become a policy priority. In his “State of the Nation Address,” Philippine President Aquino stated “a large portion of our job generation strategy is building sufficient infrastructures,” focusing on airport, rail, and toll roads that would be built, upgraded and/or privatized. The market expects the policy to benefit companies specializing in construction materials and engineering, public utility, and property developers.

Threats

• China was exporting steel at the highest levels in two years last month. Its shipments abroad rose to 8.7 percent of domestic output, the highest proportion since July 2010, indicating soft domestic demand.
• The “whatever it takes” pledge from ECB president Mario Draghi in reference to saving the euro could come with conditions attached. RGE expects the ECB to restrict any assistance to Spain alone, given that Spain signed a memorandum of understanding.

Tags: Bank Of Thailand, Basis Points, Benchmark Rate, Budget Deficit, Easy Mortgage, Emerging Market Countries, External Factors, First Time Home, First Time Home Buyers, Gain Opportunities, GDP Growth, Housing Fund, Machinery Producers, Median Estimate, Mortgage Rates, Provident, Quarter Gdp, S Industrial, Supportive Measures, Time Home Buyers
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Why Invest Internationally?

Wednesday, July 25th, 2012

July 24, 2012
by Michelle Gibley, CFA, Director of International Research, Schwab Center for Financial Research

Key points

• Some investors shy away from international investing believing it’s too risky or complicated.
• We’ll show you how it can lower your overall risk while potentially boosting your returns.
• ETFs and mutual funds can make international investing convenient.

A young, educated workforce in Singapore. Rising household income in Brazil. Export growth in China. Natural resources in Canada, Australia, Brazil and Norway.

These are some of the factors driving global growth. And if you’re only investing in US companies, they represent opportunities you may be missing. In fact, investing solely in the United States amounts to excluding three-fourths of the global economy¹ and over half of the world’s stock market value.²

We believe that allocating between 5% (conservative) to 25% (aggressive) of your total portfolio to international stocks can be a smart move for a number of reasons:

• Potential for higher rates of growth abroad.
• International stocks are becoming a larger share of the investment universe.
• Potential to lower overall risk in your portfolio.
• Multiple currencies can provide an added layer of diversification.

Let’s look closer at each of these.

High rates of growth abroad

International markets can offer growth opportunities that may not be available in the United States due to differences in household income, younger populations, availability of natural resources, export strength, and movement toward free-market economic policies. Many Asian countries, for example, benefit from exports to the Chinese economy.

Exposure to these unique growth areas, as well as emerging markets, can boost return potential. Emerging market countries typically have lower household incomes and lower debt levels relative to developed markets, giving them the ability to grow faster.

Economic growth in the United States is expected to be subdued in the near term. The International Monetary Fund (IMF) is forecasting growth in the United States to be below world growth over the next several years.³

Emerging-market economies in particular are expected to have high growth rates which the IMF estimates are two to three times faster than developed-market economies.⁴ Corporate revenues have the potential to grow faster when economic growth is higher. However, bottom-line profits depend on how expenses grow. For example, wages in China have continued to rise this year, despite the slowdown in revenue growth.

United States becoming a smaller share of the pie

In addition, while the United States boasts the world’s largest economy and stock market, the country’s importance and share of the world economy has been declining, particularly as emerging markets have grown in size. Remember, investing solely in US stocks means excluding nearly three-fourths of the global economy and over half of the world’s stock market value.

While it’s true that US companies can have international operations, investing in companies located overseas provides the potential to benefit from currency diversification (more below).

Potential to lower overall risk in your portfolio

Investors can potentially reduce portfolio risk by diversifying their investments across various asset classes—categories of investments—each tending to respond differently to various market cycles and events. International stocks are one of the five main asset classes, along with large-cap stocks, small-cap stocks, bonds and cash investments. While international investing has higher stand-alone risk, the power of diversification across asset classes can potentially lower your overall portfolio risk.

Put simply, by investing abroad you gain exposure to companies operating in other countries—with potentially unique products and customer sets—that may weather market downturns and upturns differently.

See the table below, which shows how performance in the United States has stacked up versus other developed markets in recent years.

The Best And Worst Performing Markets

Source: Schwab Center for Financial Research with data provided by Morningstar, Inc. Based on developed markets as designated by MSCI® as of 12/31/2011. Each market, except the U.S., is represented by annual total returns of the MSCI country index and is net of taxes. The S&P 500® Index represents the U.S. market’s annual total returns. Returns assume reinvestment of dividends and interest. All returns are in U.S. dollars. International investing may involve greater risk than U.S. investments due to currency fluctuations, unforeseen political and economic events, and legal and regulatory structures in foreign countries. Such circumstances can potentially result in a loss of principal. Indices are unmanaged, do not incur fees or expenses, and cannot be invested in directly. Past performance is no indication of future results.

Also, take a look at the graph below. It shows how a hypothetical portfolio of 75% domestic stocks and 25% international stocks delivered a higher return with lower risk than an investment in either market alone from 1971-2011.

International Investing Adds Diversification, Potentially Improving Overall Return and Risk

Source: Schwab Center for Financial Research with data from Morningstar Inc. United States represented by Dow Jones U.S. Total Stock Market Index. International represented by MSCI EAFE Index net of taxes. The 75/25 hypothetical portfolio is rebalanced monthly with dividends and capital gains reinvested, excluding transaction costs. The example is hypothetical and provided for illustrative purposes only. It is not intended to represent a specific investment product. MSCI EAFE is the measure of the equity market performance of the developed markets of Europe, Australasia, and Far East. Time period is from January 1971 to December 2011. Risk is measured by the annualized standard deviation of monthly returns.

Currency: An added layer of diversification

An important benefit of international investing is exposure to currencies other than the US dollar, another way investors can diversify their portfolios.

One of the key factors affecting returns is how currencies behave in relation to other countries. And because currencies tend to move in different directions, when the US dollar is declining, investments in international companies can help boost returns. Of course, the reverse is also true—when the dollar goes up, international investments tend to underperform.

These relative currency moves are a significant reason the best-performing market varies from country to country each year (see table above).

Know the risks of international investing

Investing internationally also brings increased risks. However, the good news is that many of these risks are reduced if you hold a diversified (by country, sector and company) portfolio of international stocks, such as many international mutual funds and ETFs provide.

What to keep in mind:

• Political and regulatory risk. Foreign governments can be less stable and they can have restrictions on how freely businesses operate as well as their ability to earn profits. Also, a country’s financial condition can undercut growth prospects. For example, if a country is running large deficits, it may need to raise taxes and reduce spending, which could shrink corporate profits.
• Information risk. Finding timely and accurate information about your investments may be more difficult, and there can be differences in accounting standards. This can make comparisons to US companies challenging. An additional consideration is that news about international companies can occur at nearly anytime, impacting price movements during times that are inconvenient for US-based investors.
• Currency risk. There’s the possibility that the currency of your investment will fall relative to the US dollar, lowering the return after it’s translated back into dollars.
• Transaction risk. Some countries impose currency controls that restrict or delay currency conversion, prolonging the time until you are able to access your funds. Reporting, clearing and settlement of trades also may take longer.
• Higher volatility of returns. International markets can be more volatile and trading can be less liquid (fewer shares changing hands). Dollar-cost averaging—investing a fixed dollar amount at regular intervals—can be a good tactic to spread out risk and lower the average cost per share.
• Higher costs. Investing directly on foreign exchanges can bring additional fees, including higher commission costs, exchange fees, stamp duties, transaction levies and foreign currency fees. These fees are the reason most international mutual funds and ETFs cost investors a bit more (via higher expense ratios) than their domestic counterparts.

Bottom line

International markets are gaining in importance, and by investing solely in the United States, you may be passing over growth opportunities. While there are higher risks involved with international investing, by adding it to your other investments, your overall portfolio risk could decrease while experiencing potentially higher returns—making it well worth your time to add some international flavor to your portfolio.

1. The International Monetary Fund, December 2011.

2. S&P Global Broad Market Index, May 2012.

3. International Monetary Fund, April 2012.

4. International Monetary Fund, April 2012.

Important Disclosures

For funds, investors should consider carefully information contained in the prospectus, including investment objectives, risks, charges and expenses. You can request a prospectus by calling Schwab at 800-435-4000. Please read the prospectus carefully before investing.

Some specialized funds can be subject to additional market risks. Investment returns will fluctuate and are subject to market volatility, so that an investor’s shares, when redeemed or sold, may be worth more or less than their original cost.

International investments are subject to additional risks such as currency fluctuation, political instability and the potential for illiquid markets. Investing in emerging markets may accentuate these risks.

Diversification strategies and dollar-cost averaging strategies do not assure a profit and do not protect against losses in declining markets.

Past performance is no guarantee of future results.

The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The investment strategies mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision.

All expressions of opinion are subject to change without notice in reaction to shifting market conditions. Data contained herein from third party providers is obtained from what are considered reliable sources. However, its accuracy, completeness or reliability cannot be guaranteed.

Indexes are unmanaged, do not incur management fees, costs and expenses, and cannot be invested in directly.

Tags: Asian Countries, Brazil Export, Canada Australia, Chinese Economy, Debt Levels, Economic Policies, Emerging Market Countries, Global Economy, Global Growth, Growth Areas, Growth Opportunities, Half Of The World, Household Income, Household Incomes, International Markets, International Stocks, Investment Universe, Natural Resources In Canada, Smart Move, Stock Market Value
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Is Higher Inflation on the Horizon?

Wednesday, July 18th, 2012

by Orhan Imer, Ph.D., Columbia Asset Management

For nearly two decades, inflation in the U.S. has been fairly contained except for a few periods of moderate acceleration around peak levels of economic activity. More recently, headline inflation as measured by the year-over-year change in the CPI-U (Consumer Price Index for Urban Consumers) declined from 3.9% in September 2011 to 1.7% in May 2012, driven primarily by the slowdown in the U.S. economy and the sharp drop in energy and commodity prices.

While the current level of inflation remains subdued, investors should be prepared for risk of longer-term inflation associated with highly accommodative monetary and fiscal policy actions taken by the Fed and the U.S. Government since 2008.

During the past several years, the Fed’s monetary policy decisions, intended to stimulate U.S. growth, have become less centered on containing inflation. In particular, the Fed’s near-zero interest rate policy and expanded balance sheet along with deficit spending by the government to lift the economy out of recession have raised the risk of future inflation. Other conditions that may add to inflationary pressures over the next decade and beyond include:

1. Accelerated government spending on healthcare and other non-discretionary spending programs (such as Social Security, Medicare and Medicaid) necessitating continued high levels of federal borrowing
2. Demographic shifts in the U.S. population as baby boomers begin to retire leading to lower savings and productivity
3. Higher tax rates on income and capital gains raising the cost of capital dampening capital investment and productivity
4. Weakening of the U.S. dollar due to Fed’s interest rate policy and massive monetary easing which may promote inflation through higher energy and commodity prices
5. Emerging market countries representing a growing share of global GDP and driving up the demand for scarce resources (commodities, land and other real assets)

While the recent slowdown of the global economy along with the continuing weakness in the U.S. housing market and excess manufacturing capacity in many industries may keep inflationary pressures at bay near term, investors should protect themselves against unexpected inflation, as surprises in inflation can have a meaningful impact on the performance of inflation-sensitive assets.

Read more in this week’s Perspectives.

See more Market Insights from Columbia Management.

Tags: Baby Boomers, Columbia Asset Management, Commodity Prices, Consumer Price Index, Deficit Spending, Demographic Shifts, Discretionary Spending, Emerging Market Countries, Global Gdp, Headline Inflation, Imer, Inflationary Pressures, Interest Rate Policy, Monetary And Fiscal Policy, Monetary Policy Decisions, Peak Levels, Policy Actions, Real Assets, Term Inflation, Urban Consumers
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4 Reasons to Like China

Thursday, July 12th, 2012

Last month, in my Investment Directions monthly commentary, I predicted that we’d see further stimulus from China this yearas officials try to keep Chinese growth at a respectable rate ahead of a fall 2012 leadership transition.

And as I suggested would happen, the Chinese central bank last week announced its second surprise rate cut within a month. The action from the central bank was an acknowledgement that the world’s second largest economy is slowing. In the first quarter, China’s growth decelerated to 8.1% year over year, the slowest pace since the summer of 2009 as a slowing United States and ongoing European sovereign debt crisis took a toll on Chinese exports.

Still, despite China’s economic slowdown, I continue to hold an overweight view of Chinese equities for the following four reasons:

1.)    Valuations: Chinese stocks are selling at a significant discount to both other Asian emerging market countries and to their own history, especially when you consider that Chinese inflation is decelerating. In addition, current discounted valuations appear to be already reflecting the risk of a hard landing, which I don’t believe is the most likely scenario for China.

2.)    Growth Expectations: While China is experiencing a slowdown, it’s important to put China’s growth in perspective. I expect second quarter Chinese growth to come in around 8%, a level consistent with a soft landing scenario, and not anywhere near the United States’ truly slow 2% growth. In addition, the preponderance of evidence – and the few bright spots among weak recent economic data — still suggest that China can engineer a soft landing and even if China ends up growing at 7% to 7.5% next quarter, Chinese equities still look cheap.

3.)    Economic Policy: That China lowered interest rates twice within a month suggests that Beijing is refocusing on, and is willing to go the distance to stabilize, growth. In fact, I continue to expect more stimulus from China as it tries to ensure a smooth upcoming leadership transfer and as cooling inflation in the country gives the government more room to focus on growth. In addition, the gradual liberalization of the financial industry is also a plus for long-term growth.

4.)    Relatively Low Risk: Based on my team’s analysis, China is not one of the 15 riskiest markets. In addition, China enjoys a relatively stable currency, which reduces the volatility of its USD returns.

To be sure, Chinese equities, along with other risky assets, are still vulnerable to the fortunes of the global economy, and an exogenous shock, such as a worsening eurozone crisis, could certainly knock China off of its trajectory. But in the absence of such an event, most evidence suggests that China can engineer a soft landing and its outlook seems more positive than investors may be discounting. I prefer to access Chinese equities through the iShares MSCI China Index Fund (NYSEARCA: MCHI) and the iShares MSCI China Small Cap Index Fund (NYSEARCA: ECNS).

Source: Bloomberg

Russ Koesterich, CFA is the iShares Global Chief Investment Strategist and a regular contributor to the iShares Blog.  You can find more of his posts here.

In addition to the normal risks associated with investing, international investments may involve risk of capital loss from unfavorable fluctuation in currency values, from differences in generally accepted accounting principles or from economic or political instability in other nations. Emerging markets involve heightened risks related to the same factors as well as increased volatility and lower trading volume. Securities focusing on a single country and investments in smaller companies may be subject to higher volatility.

Tags: Acknowledgement, Chinese Central Bank, Chinese Exports, Chinese Growth, Chinese Stocks, Debt Crisis, Economic Data, economic policy, Economic Slowdown, Emerging Market Countries, First Quarter, Growth Expectations, inflation, Investment Directions, Leadership Transition, Preponderance Of Evidence, Sovereign Debt, Stimulus, Surprise Rate, Valuations
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Rethinking Risk With Corporate Emerging Market Bond ETFs

Friday, May 18th, 2012

Last month, iShares introduced CEMB, which gives investors exposure to emerging market corporate debt. Since the fund’s launch we’ve fielded some questions from clients wondering why the yield on CEMB is close to the yield on another one of our funds — EMB, which provides access to sovereign emerging market debt.

As of May 11, CEMB had an average yield to maturity of 4.95%, while EMB’s yield was 4.99%. If I’m taking on more risk with CEMB by investing in corporate vs. sovereign debt, clients have asked, why aren’t I receiving a higher yield in return? The answer is because in this case, the risk associated with corporate emerging market bonds might not be as elevated as many investors would think.

First, let’s look at the amount of duration, or interest rate risk, of these two funds. As measured by its duration of 5.5 years, CEMB has less interest rate risk than EMB, which has a duration of 7.42 years as of May 14.

Now, let’s look at the holdings of EMB and CEMB. EMB holds securities backed by emerging market sovereign governments, like Peru, Russia and the Philippines.

CEMB meanwhile gives investors access to the corporate debt of companies domiciled in emerging market countries. It holds the debt of big companies like Brazilian oil company PetroBras International and South African electricity producer, Eskom Holdings. Although the issuers in CEMB are based in emerging markets, many have investment grade credit ratings, including a fair number with AA or A ratings. As the chart below illustrates, the composition of CEMB is slightly higher on the credit rating spectrum than EMB:

Credit Rating Breakdown:

Investors might assume that emerging market corporate bond ETFs would consist of bonds that have lower credit ratings than those in emerging market sovereign ETFs, making them riskier holdings that provide a higher yield. But this chart illustrates that is not always the case, and it helps to explains why a fund like CEMB would have a yield similar to that of EMB.

How could investors consider using CEMB in a portfolio?

1.) Diversify away from US corporate debt: For investors who own a fund like LQD, which holds investment grade US corporate debt, CEMB offers an opportunity to diversify away from US corporate debt while potentially picking up additional yield. LQD’s average yield to maturity was 3.52% as of May 11. Additionally, with low correlations to other fixed income sectors and equities, emerging market corporate bonds can add diversification to investment portfolios. Past performance is no guarantee of future results.

2.) Access the emerging market consumer: As Russ Koesterich has noted, emerging market growth continues to create hundreds of millions of new middle-class consumers. By 2025 China, India and Brazil are respectively expected to be the 2nd, 4th, and 9th largest consumer markets in the world, according to McKinsey. The emerging market corporations whose bonds are held in CEMB are selling their wares to this growing consumer base.

3.) Gain access to emerging market growth with less volatility than emerging market equities. For the past 10 year, emerging market corporate bonds have had total return volatility of 12.5% as compared to 24.4% for emerging market equities, using data from Morningstar and MSCI, as of April 30.

Matt Tucker, CFA is the iShares Head of Fixed Income Strategy and a regular contributor to the iShares Blog. You can find more of his posts here.

Past performance is no guarantee of future results. For the standardized performance of these funds, please click here: CEMB, EMB, LQD.

The performance quoted represents past performance and does not guarantee future results. Investment return and principal value of an investment will fluctuate so that an investor’s shares, when sold or redeemed, may be worth more or less than the original cost. Current performance may be lower or higher than the performance quoted. Performance data current to the most recent month end may be obtained by calling toll-free 1-800-iShares (1-800-474-2737) or by visiting www.iShares.com.

Holdings are subject to change. To view the complete list of holdings for CEMB, please click here.

In addition to the normal risks associated with investing, international investments may involve risk of capital loss from unfavorable fluctuation in currency values, from differences in generally accepted accounting principles or from economic or political instability in other nations. Emerging markets involve heightened risks related to the same factors as well as increased volatility and lower trading volume. Bonds and bond funds will decrease in value as interest rates rise. Diversification may not protect against market risk.

Copyright © iShares

Tags: Aa, Brazil, BRICs, Cemb, Composition, Corporate Bond, Corporate Bonds, Corporate Debt, Credit Rating, Duration, Electricity Producer, Emb, Emerging Market Bonds, Emerging Market Countries, Emerging Markets, Interest Rate Risk, Issuers, Oil Company, Sovereign Debt, Sovereign Governments, Spectrum, Yield To Maturity
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The Income Hunt: Opportunities Abroad

Wednesday, May 2nd, 2012

by Russ Koesterich, Chief Investment Strategist, iShares

Investors often have a home country bias when it comes to their fixed income portfolios, which means they are generally too reliant on domestic issues. Today, however, there are a number of reasons why investors should consider maintaining a strategic benchmark allocation to emerging market debt.

In recent posts, I’ve highlighted some of these arguments, including the increased stability and improving fundamentals of emerging market countries. But since so many investors are asking me lately about emerging market debt, I figured I’d expand on the case for this asset class in this post. Here’s a bit more on four arguments favoring exposure to emerging market fixed income.

Better fiscal positions: Emerging markets exited the financial crisis in a far better position than their developed market counterparts. The average debt burden of emerging markets is less than 40% of gross domestic product, while developed market debt has soared to more than 100% of GDP on average. This greater fiscal stability is partly why emerging market bonds should now be less volatile relative to their developed counterparts than in the past.

Fading inflation risk: While investors in emerging markets were reasonably concerned about inflation in 2011, inflation appears to be a fading risk in most of the large emerging market countries, the exception being India. Chinese inflation is currently running at 3.6%, roughly half the level of last July. In Russia, inflation has fallen to 3.7% in March from nearly 10% last May. Even in Brazil, a country with a history of stubbornly high inflation, consumer price inflation has dropped to 5.2% in March, down from 7.3% in September. International Monetary Fund estimates suggest that this trend should continue, with emerging market inflation expected to fall throughout 2012.

High premium: Despite emerging markets’ improving fundamentals, emerging market bonds are offering a significant, and historically high, premium over most developed market debt. Currently, emerging market bonds are yielding roughly 350 basis points over the 10-year Treasury, close to a record high.

Diversifying hedge: Emerging market bonds add diversification and a hedge on the dollar, although they are more volatile than domestic bonds. And for those wishing to avoid the foreign currency exposure associated with international bonds, there are dollar denominated emerging market bonds and funds that offer the incremental yields without the foreign currency risk.

In short, most investors are arguably underweight emerging market bonds in their fixed income portfolios though there’s a strong case for considering increasing exposure to this asset class through vehicles such as the iShares J.P. Morgan USD Emerging Markets Bond Fund (NYSEARCA: EMB) and the iShares Emerging Markets Local Currency Bond Fund (NYSEARCA: LEMB).

Source: Bloomberg

Disclosure: Author is long EMB

Diversification may not protect against market risk. Bonds and bond funds will decrease in value as interest rates rise. International investments may involve risk of capital loss from unfavorable fluctuation in currency values, from differences in generally accepted accounting principles or from economic or political instability in other nations. Emerging markets involve heightened risks related to the same factors as well as increased volatility and lower trading volume. Narrowly focused investments typically exhibit higher volatility and are subject to greater geographic or asset class risk. The Fund may be subject to credit risk, which refers to the possibility that the debt issuers will not be able to make principal and interest payments.

Tags: asset class, Bias, BRICs, Chief Investment Strategist, Consumer Price Inflation, Counterparts, Debt Burden, Emerging Market Bonds, Emerging Market Countries, Emerging Markets, Estimates, Financial Crisis, Fiscal Positions, Fiscal Stability, Fixed Income, GDP, Gross Domestic Product, Inflation Risk, International Monetary Fund, Portfolios, Russ
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The World’s A Little Richer

Saturday, March 31st, 2012

Imagine your daily consumption costing you less than a cup of Starbucks. About 1.3 billion people around the world live this reality. The good news is that it’s the lowest number of people ever.

The World Bank released an update to its consumption poverty estimates in developing countries, and for the first time ever, the organization found progress in all the regions they track. In terms of the number and percentage of people living on $1.25 a day (on a purchasing power parity) at 2005 prices in 130 developing countries, the world is a little richer.

The area seeing “dramatic progress” was East Asia, reports the World Bank. Back in the 1980s, this region had the world’s highest incidence of poverty. Nearly 80 percent of people lived on less than $1.25 each day; In 2008, the number dropped to 14 percent.

Across these poorest countries, in 1981, 70 percent of people were living on less than $2 a day; 2008 data shows that the figure has fallen to just above 40 percent. Whereas just over 50 percent of people in the poorest countries were living on less than $1.25 a day in 1981, only about 25 percent are today.

I discussed the importance of this rising consumer with CNBC’s Squawk Box Asia’s Martin Soong and Lisa Oake this week. I stopped by their studios while I was in Singapore to discuss my thoughts on the continuing build-out of emerging markets.

Watch it now.

By clicking the link above, you will be directed to a third-party website. U.S. Global Investors does not endorse all information supplied by this website and is not responsible for its content. All opinions expressed and data provided are subject to change without notice. Some of these opinions may not be appropriate to every investor.

The S&P/ASX 200 Index is a market-capitalization weighted and float-adjusted stock market index of Australian stocks listed on the Australian Securities Exchange. E-7 are the seven most populous emerging market countries—China, India, Indonesia, Brazil, Pakistan, Russia and Mexico.

Tags: Asx 200, Australian Securities, Australian Stocks, Brazil, Cnbc, Dramatic Progress, East Asia, Emerging Market Countries, India, India Indonesia, Market Capitalization, Martin Soong, Oake, Paki, Poorest Countries, Poverty Estimates, Purchasing Power Parity, Russia, S Martin, Squawk Box, Starbucks, Stock Market Index, U S Global Investors
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Where to Find Value in Emerging Asia

Tuesday, February 7th, 2012

This week, I’m updating my views on some of the emerging market countries in Asia.

While I’m upgrading Chinese equities from neutral to overweight, I’m downgrading South Korean and Indian stocks from neutral to underweight.

Starting with China and South Korea – the two countries are both highly exposed to global growth, but China currently appears to be the better positioned of the two and is likely to hold up much better from a growth perspective.

First, while Chinese equities have performed well year to date, they are down over the past 12 months. As a result, Chinese equities are cheap compared to other Asian emerging market countries, trading at 1.6x book value.

Recent economic data also suggests that growth in China is stabilizing and supports a soft landing. The most recent purchasing managers index, a key measure of manufacturing activity, came out last week at a better-than-expected 50.5, and retail sales growth is actually up to 18.1% year over year. Finally, Chinese inflation, which we all know was a big problem in 2011, is falling. It’s down to 4.1% from 5.5% in November and 6.5% in August.

To be sure, South Korean equities are also cheap compared to other emerging markets. This, however, is normal. South Korea typically commands a big discount due to ongoing uncertainty over North Korea. The cheapness of South Korean stocks is also justified given the country’s worsening economic outlook. South Korea’s economic readings have particularly suffered recently.

Finally, I’m downgrading India in response to the country’s recent surge in valuations and persistently high inflation. Indian stocks appear expensive once again. They are up more than 20% year to date and are currently trading at 2.6x book value. This compares with the Asian emerging market average of 2.4x book value.

In addition, growth in India is still strongly below trend and while the country’s profitability is respectable, it has been on a downward trend over the last couple of months. Finally, Indian inflation, while down from a couple of months ago, is still in the danger territory at 9.3%. All in all, Indian stocks are simply too expensive given current fundamentals (potential iShares solutions: MCHI, ECNS).

Source: Bloomberg

International investments may involve risk of capital loss from unfavorable fluctuation in currency values, from differences in generally accepted accounting principles or from economic or political instability in other nations. Emerging markets involve heightened risks related to the same factors as well as increased volatility and lower trading volume. Securities focusing on a single country may be subject to higher volatility.

Copyright © iShares

Tags: 6x, Countries In Asia, Downward Trend, Economic Data, Economic Outlook, Emerging Asia, Emerging Market Countries, Emerging Markets, Global Growth, Growth Perspective, Indian Stocks, inflation, North Korea, Overweight, Profitability, Purchasing Managers Index, Retail Sales Growth, South Korea, South Korean Stocks, Valuations
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Getting Granular with Emerging Markets

Sunday, November 20th, 2011

by Russ Koesterich, Chief Investment Strategist, iShares
Thirty years ago, financial shocks mainly originated in emerging markets. Today, as we are all too well aware, those financial shocks are originating closer to home, in the developed world.

Given today’s volatile world, it may be time for investors to adopt a more nuanced approach to investing in emerging markets. Rather than using the traditional frameworks —  such as emerging markets versus developed markets — I’m advocating that investors consider creating their international allocation on a country or regional basis. Here are two reasons why:

1.) Traditional frameworks are less relevant than they used to be. There are increasing differences now between how individual emerging market countries are performing, what their prospects are and where they are in the economic cycle. The same also applies for developed market economies.

As a result, it’s possible that common groupings of countries don’t represent the views investors want to express. This is true for both broad emerging market and developed market groupings as well as for traditional smaller groupings.

Take the BRIC, for instance. It’s the acronym that applies to the emerging market countries of Brazil, Russia, India and China, and to indices tracking these economies. While it may be a great acronym, it no longer represents a homogenous group of countries that are all in a similar stage of economic development. Today, there are significant differences among the BRIC countries, especially regarding how they are combating inflation. As a result, if you hold different views of the countries (say, if you love Brazil and hate Russia) a BRIC fund may be a bad way to implement your view.

In other words, a more granular implementation scheme can potentially provide investors with additional flexibility to implement tactical views or to more accurately tilt a portfolio when circumstances warrant.

2.) Potential for improved risk-adjusted-returns. According to my team’s research, there is some evidence that the added flexibility associated with a granular approach may in turn potentially result in improved risk-adjusted-returns.

In an experiment, we used the MSCI USA Index, the MSCI All Country World ex-US Index and the MSCI Emerging Markets Index to build an investment portfolio targeting the same risk level as the MSCI All Country World Index, or ACWI. These three indexes can be used to create ACWI. In our experiment, we rebalanced the mix of the three indices monthly so that the expected risk of the granular portfolio targeted the same risk as ACWI.

While there’s no guarantee our experiment would match what would happen in real world investing, our granular portfolio did deliver additional return over our testing period of 1990-2010. In addition, when we tested a riskier granular portfolio versus the global index, we found that the riskier portfolio could potentially deliver even more additional return.

To be sure, whether investors should focus their equity allocation at the global, regional, or country level will certainly depend on if they want to express tactical views. Still, I believe investing on a country or regional basis could help investors potentially gain both flexibility and better risk-adjusted returns.

Past performance does not guarantee future results.

In addition to the normal risks associated with investing, international investments may involve risk of capital loss from unfavorable fluctuation in currency values, from differences in generally accepted accounting principles or from economic or political instability in other nations. Emerging markets involve heightened risks related to the same factors as well as increased volatility and lower trading volume. Securities focusing on a single country may be subject to higher volatility.

Tags: Acronym, Bric Countries, Bric Fund, Chief Investment Strategist, Economic Cycle, Economic Development, Emerging Market Countries, Financial Shocks, Groupings, Homogenous Group, Implementation Scheme, inflation, Investing In Emerging Markets, Market Economies, Nuanced Approach, Prospects, Regional Basis, Risk Adjusted Returns, Russ, Thirty Years, Traditional Frameworks, Volatile World
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Commodity Decline Could Provide a “Tax Cut” (Gibley)

Wednesday, October 26th, 2011

Commodity Decline Could Provide a “Tax Cut”

October 24, 2011

by Michelle Gibley, CFA, Senior Market Analyst, Schwab Center for Financial Research

Key points

• The global growth slowdown could offer some positive news: a decline in commodity prices and inflation.
• Domestically oriented countries—those that rely more on consumer or construction spending—could benefit from the consumption stimulus, while domestically oriented, emerging market countries could receive a dual benefit as monetary policy pressure lessens.
• Commodity prices may not decline to the same degree as in 2008, because another global recession appears unlikely.

It’s hard to cheer on a global economic slowdown, but there could be some good news for consumers amid the pessimism. As economic growth slows, the demand for commodities—such as oil, metals and food—typically slows, resulting in falling prices. The impact of this could be similar to a “tax cut” for consumers, giving them more money in their pocketbooks.

The benefit of this “consumption stimulus” is most likely to be seen in countries where growth is generated domestically, either through consumption or construction spending. Examples of developed, domestically oriented countries include the United States, Japan and the United Kingdom.

In addition to the “consumption stimulus,” emerging market countries could benefit from the downward pressure that falling commodity prices puts on inflation—reducing the need to hike interest rates.

Here, we’ll discuss:

• Why might we see a “consumption stimulus”?
• Why is inflation likely peaking?
• Who is likely to benefit from the “consumption stimulus”?
• Why are commodity prices unlikely to decline as much as in 2008?
• What are Schwab’s investment resources for international investors?

Why might we see a “consumption stimulus”?

Commodity prices tend to fall when economic growth slows due to reduced demand from both consumers and businesses. Consumers may cut back on energy use and purchase fewer goods and services to save money. Meanwhile, businesses may reduce production in response to reduced demand.

In addition, most commodities are priced in US dollars. When the dollar falls, commodity prices tend to rise as it takes more dollars to purchase the same amount of a commodity. And as we’re seeing now, the inverse is also true; commodity prices tend to decrease when the dollar rises.

While consumers pay attention to the prices they pay at the register, investors care more about inflation—and notably, we may have seen the top.

Why is inflation likely peaking?

With economic growth slowing, some investors are worried that inflation may increase because they may expect the Federal Reserve to pursue QE3 (quantitative easing, or asset purchases), which could weaken the dollar and raise commodity prices.

However, the dollar may not decline. Thus far, the Fed has done more to stimulate growth than the rest of the world. And with global growth slowing, other global central banks may begin to lower rates or pursue other stimulus measures in a “catch-up” phase. The impact of rate changes on currencies is relative. But the net effect of declining rates abroad and potentially better growth prospects in the United States is that the dollar may have an upward bias.

Commodity prices have already started to fall as a result of the economic slowdown, but inflation has not yet shown a noticeable decline. However, taking out the impact of the dollar and holding commodity prices unchanged from the levels reached this summer, measures of inflation are likely to decline relatively soon. The reason is that inflation is measured as a percent change from the prior period.

Commodity prices likely peaking near-term

Source: FactSet, Commodity Research Bureau, Dow Jones, NYMEX as of October 19, 2011.
* Indexed to 100 = 10/18/2006. 25-day moving average.

Who is likely to benefit from the “consumption stimulus”?

Depending on the type of economy, the “consumption stimulus” can have a different impact:

• Domestically oriented countries, those with bigger consumer sectors or reliant on infrastructure spending for growth, would benefit from lower commodity prices because a “consumption stimulus” could result in better potential for growth to reaccelerate. The extra money in consumers’ pocketbooks can be used for discretionary spending, and make infrastructure spending more attractive.
• Export-oriented countries tend to suffer in a global slowdown, although lower raw materials prices can reduce margin pressures for companies with less pricing power.
• In emerging market countries, food price declines have a large impact on inflation, because food accounts for a disproportional share of consumer spending. Emerging market inflation has been a problem due to rising commodities and expectations that prices increases would continue. Additionally, higher wages, which contributed to inflation when growth was accelerating, are likely to ease along with slowing economic growth. Peaking inflation could provide the cover for central banks to pause rate hike cycles, benefitting stocks.
• In developed market countries, the commodity that tends to get the most attention is oil. According to the Federal Reserve’s model, every $1 move in the price of oil equates to a 0.2% change in GDP in the United States. Through September 30, the price of Brent crude, the index most closely associated with changes of gasoline prices at the pump, has fallen $24 from the May peak. And while gas prices at the pump typically react a lot faster to spikes in oil prices than to declines, the national average price at the pump has fallen back down to $3.50 a gallon on September 30 from the $3.96 May peak.

Emerging market countries with a domestic orientation could receive a dual benefit from the “consumption stimulus” and the reduced pressure on monetary policy.

Current outlook for select emerging market, domestically oriented countries:

• Brazil: the threat of a credit bubble could damage Brazil’s growth, where consumer spending grew on the back of excessive lending. Consumers have started to become delinquent on payments, risking the potential for bad bank loans in the future. Fiscal spending needs to be redirected from social programs toward productivity-enhancing investments. The central bank was one of the first to cut rates. However, with inflation still elevated, there’s the concern that the rate cut came too early, and inflation could resume upward.
• India: persistent inflation forced the central bank to essentially decide to sacrifice growth in the name of fighting upward prices. However, inflation remained above 9% in September, well above the central banks’ 4-6% target, and rate hikes may continue. Additionally, the country has longer-term issues with food supply. Available land has shrunk, crop yields have fallen due to flawed farming practices, and only 45% of fields are irrigated, leaving production at the mercy of weather. Other growth pressures include a large fiscal deficit and the need for foreign capital. Foreigner investors have pulled out money, discouraged in part by ongoing corruption allegations and government bureaucracy.
• Mexico: growth is typically tied to the United States, as it’s the destination for more than 70% of exports. Among developed nations, growth in the United States is attractive relative to the larger probability of a recession in Europe. Meanwhile, Mexico could benefit as auto production comes off the bottom and reaccelerates globally after the slowdown induced by the Japanese catastrophes earlier this year. Relative to other emerging markets, Mexico may have a better potential for growth because many other emerging markets could slow due to reduced growth in China.

Why are commodity prices unlikely to decline as much as in 2008?

While commodity prices fell sharply in 2008, prices may not decline to the same degree this time, because another global recession appears unlikely.

Emerging market incomes have continued to rise, increasing demand for both food and energy. Rising incomes tend to result in improved diets, increasing consumption of protein, which require more grains to produce than basic grain-based diets. This supports underlying demand for agriculture commodities. Additionally, energy consumption has risen in tandem with greater automobile penetration. Emerging markets now outpace developed markets in oil consumption.

Emerging market oil consumption more important than developed markets

Source: FactSet, BP Annual Statistical Review of World Energy as of December 31, 2010.

Tags: Brazil, Commodities, Commodity Prices, Crude Oil, Downward Pressure, Dual Benefit, Economic Growth, Emerging Market Countries, Energy Use, Global Economic Slowdown, Global Growth, Global Recession, India, inflation, Infrastructure, International Investors, Investment Resources, Market Analyst, Monetary Policy, October 24, Outlook, Pessimism, Pocketbooks, Positive News, Schwab, Stimulus
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