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»MoreHave price increases come to an end?
In 2009, Emerging Market equities were absolute stars, as prices increased at a dizzying pace. As a result, many market observers have started taking a more sceptical view, describing these assets as overvalued and too expensive. And in fact, some equity prices in the Emerging Markets have slipped considerably in recent weeks. Is the rally in Emerging Market stocks over now?
First, the correction in prices that has been seen since mid-January should absolutely not be viewed as anything new or unusual for the Emerging Markets. These setbacks by no means represent an end to the long-term upward trend on the Emerging Markets. Clearly, the room for more gains is now limited. But the underlying fundamental factors which are supportive for most Emerging Markets are still in place or are even stronger than ever: these include often favourable demographics and wage cost structures, the significant need to close economic development gaps, frequent abundance of commodity reserves, growing domestic markets and, on the whole, considerably more solid, stable public finances than in most developed industrialised countries.
Looking at the valuations, share prices have certainly not become unrealistic, despite the massive increases.
In fact, the corporate earnings growth forecast for this year and the years to come should easily justify the current share price levels, and in some cases there is still ample potential for prices to even go higher. Of course, one of the many important variables in the equation is the durability of the economic recovery in the developed countries. But even if this recovery turns out to be significantly weaker than the markets are currently pricing in, equities from the Emerging Markets would not automatically be overvalued, in stark contrast to the situation on most developed stock markets.
China and India are pressing forward
Nevertheless, the various individual Emerging Market countries are naturally dependent in very different ways on each other and on the major economic regions (USA, EU and Japan), and the challenges facing these countries are also quite significant. For example, China’s advantage in the latest global economic crisis, namely its centralised control of the economy, can certainly also result in major disadvantages from investors’ point of view. For the Chinese authorities, the absolute top priority is to create jobs and income for the broadest possible range of social classes; accordingly, its main focus is not on using resources as efficiently as possible and certainly not on maximising profits for individual companies. Due to the prolonged weakening of growth in the main export markets and the rapid depletion of the global commodity base, Beijing is faced with the massive challenge of transforming its very energy-intensive, strongly export-oriented economy into a more efficient economy focused much more strongly on the domestic market, while at the same time ensuring that the previous pace of economic growth is maintained to the greatest degree possible. This promises to be a difficult, protracted and anything but smooth process. Despite all of the state controls, lending growth for example does not only stimulate production, infrastructure expansion and consumption: it is obviously also fuelling the already overheated real estate sector. Despite these major challenges and inevitable setbacks from time to time, the fascinating Chinese growth trend is poised to continue on the whole and will keep offering very good opportunities for returns in the future as well. By contrast, India has a broadly democratic, market-oriented economy and is faced with the challenge of making the fruits of economic development available to wider classes of society and placing its economic growth and development on a broader basis.
Latin America is catching up
Compared to China and India, the growth potential of Latin America is often underestimated. But many countries in this region have excellent long-term growth prospects, thanks in part to their vast natural resources, strongly expanding domestic markets, healthy banking systems and relatively stable, solid public finances. One can expect that there will be frequent shifts in the Emerging Market regions which are favoured by investors, and that there will also be repeated large setbacks, both for the economies and for the stock markets in the Emerging Markets. This does not, however, undermine their prospects for above-average long-term growth and returns. Accordingly, forward-looking investors will always find interesting new investment possibilities and active fund managers will find opportunities to earn additional returns.