Getting A Read On China
For Quint and others, positive signs would include sustainable growth in China. The problem for some, however, is getting a clear reading on China at all. “It’s a very opaque economy,” says Arjun Jayaraman, head of quantitative research at Los Angeles-based Causeway Capital Management and co-manager of its Emerging Markets Fund. “Beijing comes out with an official GDP number every quarter that nobody believes. So we don’t really understand where things are.”
China, he asserts, is transitioning from a manufacturing-driven economy to a services-oriented one. While Chinese manufacturing may indeed be contracting, the services side of the economy appears to be expanding, “which is a good thing in the long run,” says Jayaraman, who is cautiously bullish. “The fears are coming from looking at the old indicators of where the Chinese economy is, rather than the newer indicators of what the economy is transforming into.”
In fact, Asia is his preferred EM region. He points out that China, India, South Korea and Taiwan have all lowered interest rates, which could further strengthen their economies. On the other hand, EM markets in Latin America, Eastern Europe and Russia remain a concern for Jayaraman, largely because of their dependence on commodity exports.
Investor Goals And Styles
His bullish view of emerging Asia is predicated on patience. He recommends waiting at least one year and preferably three for an EM rally. “Shorter time horizons would be tough in today’s markets,” he says. “But the longer-term investor you are, the better off you’re going to be if you invest in emerging markets.”
It's also a matter of how conservative or aggressive the investor is. "For conservative clients, some degree of caution may be warranted,” says John De Clue, chief investment officer for The Private Client Reserve unit of U.S. Bank in Minneapolis. “For more aggressive investors, some participation may be appropriate.”
De Clue isn’t advocating an exit at current low levels. “It’s probably OK to maintain existing positions,” he says, “but I would not recommend adding at this point. I wouldn’t be trying to bargain-shop. I’d rather be patient and watch developments.”
If and when the time comes, he says, positions must be chosen carefully. “I strongly suggest that EM investors not use index funds, where you basically own a piece of every country,” he says. “The differences between the major EM countries are so stark that if you’re going to invest, it pays to use an active manager.”
Even so, he says no one should invest in EM debt at the moment. “A lot of these countries have been borrowing in U.S. dollars. That’s good, but the stronger the dollar gets the more debt service they have. At the same time, their revenues are in local currency. So you get this squeeze.”
Picking and choosing among the different EM stocks certainly sounds sensible, but how is one to know which and when? “I’m hesitant to suggest that one should get into and then out of and then back into emerging markets,” says Bill Hoyt, head of research at San Francisco-based Lattice Strategies. “Despite the recent trauma, the growth dynamics and the long-term investment potential of the EM space are still there. So we do think some exposure is appropriate for many investors. It just should be handled more gingerly than other markets, to balance the risks.”
He singles out Indonesia. “Its economic development is now where China’s was in the mid- or late-90s,” he says. “It’s still working through market reforms and trying to stamp out government corruption, but there’s a significant opportunity there for pro-business development. It could end up being an economic powerhouse, given time.”
Specific country forecasts are not Hoyt’s style, however. “These countries can change their fortunes with something as simple as the election of a new government, and these things are often unpredictable,” he observes. “But you have to have the exposure ahead of time to capture the benefit. … You just don’t want to over-concentrate in any one country. You want to be exposed to many of them.”
Once Bitten …
Just as it may take time for EM investments to pay off, it will also take time before some investors regain the confidence to try. “Still a little bit too early, in my opinion,” says Bill McQuaker of London-based Henderson Global Investors, where he is co-head of Multi-Asset, co-asset allocation strategist of the International Opportunities Fund and co-manager of the All Asset Fund. “But one more meaningful setback—relative or absolute—and there could/should be a real buying opportunity.”
He’s looking for “a chance to invest” in 2016, since he says the basic long-term positives for the sector are potentially as good as ever and the EM bear market can’t last forever. “India remains the most attractive area,” he contends. “It has its own economic dynamic; it’s not tied to China in the way many of the [other] EM countries are; and it benefits from some of the prevailing trends in markets, such as lower commodity prices.”
Some investors are looking to further improvements in the U.S. economy as a leading indicator for emerging markets. “As the U.S. economy ignites and heats up, so too will the economies of emerging markets on a lagging basis,” says Lee Frush, a certified financial planner at Cornerstone Financial, an Atlanta-based private wealth management and planning firm. “A tempered and sustained growth pattern in the U.S. could be good for EM economies, too.”
Frush takes solace in historical patterns. Emerging markets, he points out, suffered between 1999 and 2003, then rallied sharply for two straight years. “Today, even if values languish for several years, it provides an excellent opportunity to pick up shares at depressed values,” he insists.