Why this emerging market crisis might be different–less like a heart attack and more like heart disease
The current meltdown in emerging financial markets and in emerging market economies isn’t like the 1997 Asian financial crisis that smashed economies and stock markets from Indonesia to Thailand to China to Korea, according to Australia’s Macquarie Group, a global investment bank that’s a big commodity and infrastructure investor in developing economies.
Whew! No one wants to relive that period. In that crisis the Thai baht lost 50% of its value and
Thai stocks fell by 75%. Indonesia lost 14% of its GDP.
Unfortunately, according to Macquarie, the fact that the current crisis won’t duplicate the character of the 1997 crisis is the end of the good news. If 1997 was a sharp heart attack, Macquarie notes, today’s crisis is chronic heart disease with a limited chance at a cure and with an extended period of disease punctuated by significant and recurring flare-ups that end short of an actual heart attack. There is, again according to Macquarie, a chance, however, that an escalation of the crisis in one country could turn into a freeze for the entire emerging markets sector.
Some good news, eh?
The problem this time isn’t a lack of reserves to back currencies, as it was in 1997, or unsupported trade deficits. All the Asian countries involved in the 1997 crisis—and other emerging markets such as Brazil—have far larger foreign exchange reserves than they had in 1997.
This time the problems include long-term structural deflation and depressed commodity prices, over-leverage in the private debt market by consumers and companies, massive overcapacity in sector after sector, and a surging dollar. For the countries most burdened by a combination of external debt, current account deficits, structural inefficiencies in markets and financial markets, and exposure to global deflation, the recovery is likely to be much, much slower than from the 1997 crisis. Emerging markets don’t have the option of using leverage to goose growth by consumers. Consumers in the global economy in general and in developing economies in particular are already leveraged and the world’s central banks have already flooded financial markets with cash. That flood of cash, in fact, is one cause of the current crisis and of global deflation.
Macquarie has put together a list of countries least and most affected by this chronic disease—so far. Among the least affected so far, according to Macquarie, are the Philippines, China, Russia, Korea, Taiwan, and Brazil. That list is subject to revision, Macquarie points out with Russia and Brazil, for example, extremely vulnerable to continued low commodity prices. Countries facing the biggest negative impact include India, Indonesia, Mexico, Poland, South Africa, Turkey, and Malaysia.
Now you might differ with Macquarie’s country calls. For my part I think the analysis underplays the political strengths of Mexico and the political chaos of Brazil and Russia (and potentially Turkey.)
But I think the overall point deserves serious thought. We’re used to emerging market crises that are deep but short and that are followed by relatively rapid returns to economic growth rates that far exceed those in the developed world.
I think the case for arguing that the current crisis is different is convincing. I think there is a very good chance that we’re looking at an extended period of under-performance—by historical standards—of developing economies and emerging markets.
How extended might that period be? That’s the wild card here. Nobody knows and any forecast is made doubly difficult by China’s need to radically transform its economy if the country is to escape the classic middle income trap that yawns ahead of developing economies that have climbed out of the ranks of the poor—on a per capita basis—but that haven’t yet joined the ranks of the much wealthier developed economies of the world.
China’s GDP may now be larger than that of the United States (on a purchasing power parity calculation) but China’s per capita GDP was just $7,594 in 2014 while that of the United States was $54,630. Narrowing that gap is going to take serious structure change in the Chinese economy that is likely to be extended and disruptive, if it is possible at all.
This time, this emerging markets crisis, looks like it could indeed be different
And I’m going to use this perspective to begin my revision of my long-term Jubak Picks 50 portfolio tomorrow.
If more companies were reporting sales and earnings growth like Middleby (MIDD) reported on February 25, the Standard & Poor’s 500 wouldn’t be having such trouble moving above its all time highs.
For the fourth quarter, Middleby reported earnings of $2.62 a share, 37 cents a share above the Wall Street consensus and a 29.1% increase from earnings in the fourth quarter of 2012. Revenue climbed 29.4% year over year to $377.4 million versus the $364.9 million consensus among analysts.
As of 2 p.m. New York time on February 25 Middleby shares were up $36.07 to $299.78 for a 13.7% gain. Middleby is a member of my long-term Jubak Picks 50 portfolio http://jubakpicks.com/jubak-picks-50/ )
Now I know that this pick is up 107% since I added it to this portfolio on May 3, 2013, but I don’t see any reason to sell here. The reason that Middleby is a long-term pick is that the company has a very simple growth strategy that it can repeat over and over again until the world stops opening and remodeling restaurants. And I don’t see that happening any time soon. Middleby noted in a 2012 investment conference presentation that it has products in one-third of all restaurants. That’s impressive—but it also means that Middleby doesn’t have products in two-thirds of the market.
Simple in Middleby’s case doesn’t mean easy to execute. Read more
Are there any long-term investors left in the current market?
And, more importantly, should there be?
I think the answer to both questions is “Yes.” Long-term investing has a place even in this macro driven, let’s-all-follow-the-central-banks market. There are big, readily identifiable long-term trends to back with your money.
But…and I think this is crucial…long-term investing not only isn’t easy right now when all the profits seem to be going to the momentum players, but also making money from this strategy requires some rethinking of how to play the long-term game.
I put together some thoughts on this topic for a workshop I gave on November 15 at the American Association of Individual Investors conference in Orlando. This post is a version of that presentation.
It’s pretty easy to spell out why this market is so difficult for long-term investors. We seem to be in a period of repeated booms and busts beginning in 1999 with the Dot com/technology boom and bear and concluding (maybe but I don’t think so) with the Lehman/global financial boom and bust. The current market is one dominated by macro forces, and particularly by cheap money from global central banks. To take just one example, the Federal Reserve’s balance sheet had ballooned to $3.84 trillion as of mid October. That’s up from “just” $488 billion in January 2011. As all that money sloshes around the world in search of opportunities and hot markets, it produces extraordinary short-term volatility. My favorite example of that is August 2011 when from July 6 to August 10 the Standard & Poor’s 500 dropped 16.3%; only to climb 7.4% from August 10 to August 15; before falling 7.1% from August 15 to August 19; before climbing 7.9% from August 19 to August 30. Quite a ride for a year when the total net S&P 500 return for the year came to only 2.1%.
I could advise, as some dedicated long-term investors do, patience—if I thought this kind of market was only going to last for a few more months.
But it’s not. This market is likely to be with us for quite a while.
Why? Let me give you some of my reasons.
We’re witnessing the end of the 30-year bull market in bonds as interest rate drop from the double-digit 1980s. That drop in interest rates has to stop—unless we go to some form of electronic money that lets us set negative interest rates–at 0%. From here on out, stocks don’t have the fuel of falling rates that makes them look ever better versus bonds and that helps increase company profits by lowering corporate interest payments.
We can’t expect the world’s central banks to withdraw the cash they’ve pumped into the global economy any time soon. As I wrote in my November 4 post http://jubakpicks.com/2013/11/04/look-everybody-the-federal-reserve-has-no-end-game-for-getting-its-balance-sheet-back-to-normal/ the Federal Reserve has no end game. It will take the Fed more than a decade to reduce Fed balance sheet to “normal.” Same goes for the Bank of Japan. And, if the global and/or regional economy breaks the wrong way, for the People’s Bank of China and the European Central Bank.
And, finally, I think a number of the trends that pushed up global growth rates are now breaking in the other direction. An aging world grows more slowly. We’re seeing the end of cheap rural labor in China. We’re seeing the beginning of an age of competition for global capital.
With those long-term trends in place, I just don’t think “Be patient” cuts it.
But, fortunately, not all of the long-term trends are negative.
For example, globalization really is raising incomes in developing economies to create new classes of consumers. An aging world may grow more slowly in the aggregate, but aging does create big new markets. Food demand really is growing both in “volume” and for more “up-market” products.
And then there are lots of more “local” long-term opportunities. Just in energy, for example, there are long-term trends pushing toward technologies such as turbo chargers and carbon fiber that raise automobile mileage, toward big profitable investments in moving new sources of energy (U.S. natural gas) to new markets, and toward breakthroughs in battery technology that will “revolutionize” already revolutionary technologies in fields from electric cars to wind and solar power generation.
So what kinds of long-term investing strategy will work best in a short-term world? (Other than getting adopted by Warren Buffett or having your 12-year old daughter write the next “Angry Birds.”)
My suggestion? To create a limited number of narrow long-term opportunity silos holding limited numbers of stocks.
What’s that mean? And why am I suggesting this strategy? Read more
When on April 30 Cummins (CMI) announced that the first quarter would mark the low point in revenue for 2013, markets ignored the news and instead focused on the company’s big first quarter earnings miss. (You have to admit missing by 37 cents a share and reporting a 12.3% year over year drop in revenue does draw attention.)
But a month later, the company is standing by the comment and has added some detail. Truck sales in China, which were down 12% year over year in the first quarter have improved enough so that through April year to date sales are down just 2% year over year. In the United States orders look stable and in Brazil sales are trending slightly better than expectations.
I think all this is a tribute to management that continues to invest in technology—which then enables Cummins to gain market share on competitors. Read more
10 long-term picks for 2013? In this market? You’ve got to be kidding. There’s just too much volatility.
Precisely. Which is why long-term investing can make sense in this market. All that volatility can give you opportunities to buy great long-term stocks when everybody else is—for the moment—running for the hills.
But…and it’s an important “but”… the kind of long-term investing I’m talking about isn’t buy and forget. It’s not even exactly like traditional buy and hold.
I’d call it buy rarely and sell seldom. But do pay attention to the potential for wild swings in a market ruled by central bank cash flows. I don’t think it matters a whole lot whether you use something as traditional as dollar-cost averaging or a more complex system of market timing. The key is to find stocks of good companies that are positioned to ride trends of 10 years or more. You buy more shares when the companies are out of favor. You sell completely when the company shows signs of losing its way or when the trend itself changes. If you want to increase your potential returns, you can sell partial or entire positions when the fundamentals say a stock is overvalued or when technical analysis says momentum is fading.
This is the system behind my December 2008 book Jubak’s Picks (still available used from places like Amazon.com and Powell’s Books (powells.com.)) Since January 2009 I’ve run a portfolio built on this system on http://jubakpicks.com/jubak-picks-50/ . Every year I’ve done an annual update, buying 5 new stocks and selling 5 old picks out of the 50 stock portfolio.
The update for 2013 is a little late this year—May 3—but in this post you’ll find the usual annual five buys and five sells.
And you’ll find something a little different too—a continuation and extension of a list that I introduced into the portfolio in January 2012 Read more