Local markets should benefit this year from renewed international approval, writes Donna Block. Go along for the ride
It requires a great deal of boldness and a great deal of caution to make a great fortune, and when you have it, it requires ten times as much skill to keep it. Ralph Waldo Emerson made this point a great many years ago but his words ring true even today as global investors get down to the business of scoping out the best markets for 2000 and hanging on to the gains of the past few years. Little wonder that those with a high threshold for risk are setting their sights on what were once called “submerging markets” and have mostly regained the moniker of “emerging markets”.
Still, taking a flier in these markets leaves even the most seasoned investors in a state of panic. 1998 was an emerging market year to forget. The appeal of putting money into high risk, high-reward markets was diminished as turmoil rocked many developing market economies. The mighty Asian tigers were transformed into pussycats, the Russian bear got stuffed and Japan’s economy committed ritual suicide.
Unfortunately, the rest of the emerging markets – South Africa included – got taken along for the ride. You couldn’t drag investors kicking and screaming back into the fray and they scrambled for the safe haven of the United States and its unstoppable economy.
What a difference a year makes. As 1999 drew to a close it was clear that global investors had a new worry – the economy and the direction of interest rates in the US – and it was time to look to foreign shores in order to keep the performance of their portfolios in spectacular double digits.
Foreign markets and especially those of developed countries like France, the United Kingdom and Japan outperformed Wall Street for most of the year. However, the hot and heavy action has been concentrated in the emerging markets of Asia and Latin America. And the even hotter action was in the markets of Cyprus, Turkey and even Russia.
Since October, South Africa has been making a splash on the market scene. Mark Mobius, president of the Templeton Emerging Market Fund, said it was his favourite destination. The Dreyfus Emerging Market Fund has 10% to 12% of its portfolio invested in South African equities. Banking group HSBC Holdings plc recently said it has taken an “overweight” (14,5%) position in South African equities relative to a benchmark index (11%).
Most fund managers agree that there is tremendous value in South African equities but successful investing in South Africa depends on a number of variables such as world economic growth, commodity prices, inflation and interest rates.
Now interest rates are dropping, and the country is becoming more hospitable to US investment.
South Africa is also less vulnerable to higher US rates than other emerging markets, thanks to its relatively small current account deficit and thin foreign debt exposure giving it more staying power than some other emerging markets if interest rates rise in the US.
For domestic investors this is all good news. Valuations of local companies are on the rise boosting not only individual equities but also unit trusts. International fund managers are particularly fond of the South African banking sector, resource stocks and industrial blue chips.
South African fund managers are also bullish and expect to see a stronger domestic economy in 2000. The picture isn’t all rosy, however. While South Africa has pole position as the darling of emerging markets this year, fund managers caution that some significant risks remain – citing most often that the country has a high unemployment rate, a high crime rate and has undergone a recession that’s been extremely painful. Another risk that weighs – literally – on the health of the nation is the Aids epidemic.
Nonetheless it’s still early days and even though global financial turmoil has turned into global financial expansion there are still risks in many of the emerging market economies. The biggest of which to date have been Brazil and its ability to institute reforms, Japan’s success in fixing its financial sector, and the continued support of international authorities to intervene in a crisis.
But, as one US analyst notes, even though there are signs of hope, there is no real evidence that all emerging markets have seen the worst of their problems. “The optimism we’re seeing is well placed, but it would be a real stretch to come to the conclusion that all is well from here,” he said.
The big question mark this year is going to be the continuation of growth in the US economy and its effects on the rest of the world. Growth in the US has to be maintained so the consumer madness that has taken it over will keep it buying all those goods from Asia and other exporting economies
Notwithstanding, for those who have the stomach for the possibility of a wild ride and the wherewithal to invest, the best returns this year will most likely be found in emerging market bond funds. One reason to consider bonds of developing economies is that investors and fund managers will be scrutinising the emerging economies as never before.
Bond markets often benefit from the measures policy-makers put in place to get their economies off the ground. The economies with more stable growth, lower inflation and less currency volatility should have profitable bonds in the future.
But, before even considering taking the plunge, investors have to take a long hard look at why they want to participate in emerging markets.
Since South Africa is an emerging market and is right now “the world’s number one investment destination” local shares are not a bad idea.
However, investors still have to educate themselves and look at the fundamentals of any investment before jumping on to the bandwagon or risk getting burned. For investors willing to get smart, there are enormous opportunities. But you also have to be willing to ride out the storm, just as in any other market.