I am a cynical optimist regarding this asset class at the moment. I am cynical for predictable re...
I am a cynical optimist regarding this asset class at the moment. I am cynical for predictable reasons such as the fact that corporate governance is awful in many places. Too often, there is an absence of effective mechanisms, aligning the interests of ruling elites with other groups in the country.
Also, expect another big debt default in either Brazil or Turkey within the next year or so. Currently, Turkey is looking a lot more likely.
By refusing to allow large-scale US troop deployment on Turkish soil, the Turkish government runs the risk of reduced aid packages. This aid is needed to pay off the huge amount of private sector debt accumulated when lenders thought funds would be forthcoming.
As a result, the government finds itself in a position where it will actually have to balance the books, and this may be a discipline it has forgotten. A painful default in Turkey will at the very least create some negative press for the emerging market asset class, which investors should be prepared to ride out.
I would also urge investors to be wary of the continued optimism towards China; the endless growth opportunity discussed by many commentators is part illusion. The need to privatise a lot more of its assets means investment banks are also paying flattering attention towards the country.
However, you must take into consideration that the country suffered from deflation last year. Also, why would China need to peg its currency to the dollar and run a large current account surplus unless someone is trying to get their money out?
The picture is not entirely negative, however. Many negative aspects are well known and discounted for by fund managers. For example, Korean retailers can be bought for three times earnings, Turkish equities have traded at crisis levels since the currency devalued in February 2001 and the Argentine default had been forecast, and therefore taken into account, for years.
In a situation of low economic growth in the developed world, developing countries offer the only big top-line growth opportunity. This is because consumers in the developing world are taking jobs from the developed world, generally tend to save more and are years younger.
Domestic monopolists in developing countries can earn large profits for long periods of time because there is less competition and also because some have arrangements with governments to keep it that way. Some of these are cheap and will generate very good returns for shareholders.
In summary, you should expect many flaws when investing in emerging markets but these are not fatal and I remain optimistic that the asset class can deliver a small but significant out performance for a long time.
This might be a problem because investors instinctively feel that such risk should require massive excess returns to be justified. This will not happen.
It is much more balanced to expect a portfolio of emerging market equities to return 3%-5% per year over developed world equities to compensate for the extra risks incurred and this compounds very nicely in a low inflation world.
Negative issues have been discounted.
Developing world takes jobs from developed.
Emerging markets offer good opportunities.
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9 December 2019 deadline
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Fidelity Multi Asset CIO's outlook