Understanding the anatomy of emerging markets

Many of these economies do have great potential, but investors have to understand the risks and discriminate carefully between markets

The character Dorothy in the 1939 MGM classic movie, The Wizard of Oz, finds herself swept away by a tornado and dropped into a world filled with garish colours and diminutive people with the improbable ethnic label of munchkin. When she realises that she is in a new environment, she exclaims to her dog Toto, "I have a feeling we're not in Kansas anymore." At least she had accurate situational awareness. Often investors do not.
In an area era of globalisation and ever faster international transfers of capital, new stock markets have been created and function in more countries than ever before. The variety of potential investments and their often spectacular growth have lured investors to new markets in various countries. These new markets are often categorised by various names including tiger economies, emerging markets, BRIC markets and most recently frontier markets.
Although these categories are useful for marketing financial products, they are exceptionally misleading in terms of understanding how these markets work and the risks and rewards inherent in each one. But the first thing that investors must realise is that they are not on Wall Street anymore.
One of the first issues that investors must understand is that the number of active investors in emerging markets can be quite small despite the size of the market itself. For example, the Indian stock market by capitalisation is among the largest in the world, but the number of players is limited. A report by the Indian minister of state for finance quoted in Moneylife showed that on average during the period from April to June 2010, "50% of turnover comes from a shockingly low 451 investors, of which 156 were proprietary traders."
The problem is not unique to India. Thailand has a population of 67 million, but there are only 120,000 active accounts on their stock exchange. In Brazil only a tiny proportion of people own shares and even Brazilian pension funds' exposure to equity is just 16%. Fewer traders mean a higher probability of manipulation.
Another problem with these markets is the concentration or domination of the market by a few companies or by companies in a single sector. Often this sector is financial. The MSCI Frontier Market Index tracks 175 companies in 26 countries. But 30% of the index is in one country, Kuwait, and 53% of those companies are financials.
In Indonesia the Bakrie family's controlled companies cover the breadth of Indonesia's economy, including mining, oil and gas, palm oil, property, telecommunications and finance. All of these interconnected companies make up about a quarter of the trading on the Jakarta stock exchange.

This is especially troubling because the businesses and the family patriarch, Aburizal Bakrie, have a rather colourful history. The conglomerate was near collapse during the Asian crisis of 1997 to 1998 and then again in 2008. The company has deftly avoided determined attempts to collect on debts in courtrooms across the world. The family's coal mining companies are presently under investigation for the evasion of hundreds of millions of dollars in taxes.
The financial sector also makes up a large portion of the Nigerian stock market. As in many of these markets corruption is a problem. In June of 2009 the central bank governor after an emergency audit discovered that nine of Nigeria's 24 lenders with at least 40% of the country's deposits were near collapse.
The companies listed on these exchanges are also often quite different from companies listed on exchanges in more developed countries. They include not only family country companies as in Indonesia, but also companies controlled by the state. Most likely every company listed on the Shanghai and Shenzhen stock exchanges are majority owned by an entity of the Chinese government. It is impossible to tell exactly because the records are not available.
Governments controlled almost 30% of the region's total market capitalisation in the Gulf. Governments are always happy to raise capital by selling minority interests, but investors have to remember that governments make and enforce law. It is doubtful that they will do so against their own political interests.
Fickle foreign capital is another risk. The Asia crisis was in part precipitated by massive flight of foreign capital from the so-called Asian tiger economies. The Indian stock market is close to its all-time high. This year foreign investors have bought $15.8 billion into the market including $1.7 billion in the second week of September alone. The demand for the Petrobras IPO has been so great that it has pushed up the value of the real.
Many of these economies do have great potential, but investors have to understand the risks and discriminate carefully between markets. Just like Dorothy in the land of Oz, investors will discover that many of the economic and financial tools do not work when the rules change.

(The writer is president of Emerging Market Strategies and can be contacted at [email protected] or [email protected]).



Shadi Katyal

7 years ago

One can never understand the anatomy of Indian market as it is not yet a complete free Economy. We think we had liberalization in 1990 and look the flowering of the economy but as long as our Red Tape and bureaucracy has a hand in it,we cannot flourish.
We need more liberty in FDI and trading and yet we do need stringent rules and ethics.
India development in all sectors is impeded by our own stupidity. Even a small nation like Thailand has more flourishing exports and investments.
We are still living in the colonial times and thus unable to progress.We must join the 21st century.

Paul A Renaud

7 years ago

Dear Mr. William Gamble,

Absolutely right you are. However you leave out one big piece of the puzzle and how this then leads to massive market inefficiencies.

What happens in reality is that mega-institutional investors chase only the largest caps stocks and the locals day trade these all the same. More then 90% of all capital and trading so centers on the larger cap stocks! This so then leads smaller cap high growth companies to be completely neglected, all based only on size of market cap.

In Thailand for example this has been especially pervasive as over 2/3 of GDP is made up of by smaller companies, the very ones these traders and institutions have eliminated all and only based on low market cap. Market cap is the pervasive all sought qualifier -and all else is off their radar screens. End of story.

In fact in Thailand there are many high growth quality smaller cap listed firms, with no debts and very high cash dividends. They are massively undervalued due to the above described reality which has gone on for years already. One which never makes the press as its not in the institutions interest to tell investors about their own investor constraints reality.

This investors theme, call it rational value investing, has for long been the real wealth creation phenomena here. As in a low interest rate world such high dividends alone are most attractive, not to mention that they are bundled around true growth companies. Also consider that in many emerging markets large cap companies are run by influentials "powers", vs. the smaller companies which are the true backbone of hard working Thailand. The silent often more honest majority. No doubt this is true of many developing countries, but this gets zero attention, ask yourself why?

Best Regards,
Paul Renaud.

Narendra Doshi

7 years ago

Yes, it will be very precious to remember the contents of this write-up by William Gamble but may easily be overlooked by many who will probably read it but NOT implement it in action.Thanks for this global snapshot in a nutshell.

No longer selling refined petroleum to Iran: RIL

Washington: Mukesh Ambani-led Reliance Industries (RIL) has informed the United States that it has stopped selling refined petroleum products to Iran, reports PTI quoting the US State Department.

In addition to RIL, several other petrochemical companies from other countries have also assured the US government that they are not selling refined fuel products to Iran.

As part of efforts to increase pressure on the government of Iran to discontinue its alleged nuclear weapons programme, the US has been aggressively urging foreign governments and companies to avoid commercial activity in Iran's energy sector, the State Department said after releasing a list of such companies.

"The results of the state department's efforts are clear: companies are recognising the increased risks of doing business in Iran and terminating their operations there or committing not to engage in any new activities in Iran," the State Department said a day after the Obama administration slapped another set of sanctions on certain Iranian individuals accused of human rights violations.

French oil group Total, Royal Dutch Shell, Kuwait's Independent Petroleum Group and India's Reliance informed the State Department that they have stopped refined product sales to Iran earlier this year, it said.

In addition, Turkish refiner Tupras told the State Department in August that it had cancelled contracts to supply gasoline to Iran.

Swiss energy traders Vitol, Glencore, and Trafigura all gave a public commitment in March, 2010, that they will not supply refined petroleum products to Iran, while Russian oil firm LUKOIL announced in April that it had ceased gasoline sales to Iran, it said.

LUKOIL reconfirmed this commitment to US officials on 2nd September after press reports to the contrary, the statement said.

BP and Shell have told the State Department they are no longer supplying jet fuel to Iran Air, it said.

In upstream projects, Shell, Total, ENI and Statoil have all ended or are in the process of terminating their activities in Iran and have all committed not to engage in any new activities there, the State Department said.

Shell and Repsol have abandoned negotiations over development of phases 13 and 14 of the South Pars gas field and have committed to us not to engage in any further discussions with Iran, it added.

What is more, South Korea's GS Engineering & Construction announced on 1st July that it had cancelled a $1.2 billion gas processing project in Iran, while Lloyds of London had announced on 9th July that it will not insure or reinsure petroleum shipments going into Iran.

The State Department noted that key shipping associations have created clauses in contracts that enable ship-owners to refuse to deliver refined petroleum cargoes to Iran.

Recently, Hong Kong shipping company NYK Line Ltd announced that it had decided to withdraw from trade with Iran, the State Department said.


Friday’s Market Preview: Global cues indicate a flat-to-positive opening

The Indian market is likely to open flat-to-positive today on decent global cues. The US markets took a breather on the last trading day of September, despite strong economic data in the world’s largest economy. Business activity unexpectedly rose and fewer workers filed claims for jobless benefits, easing economic concerns. Markets in Asia were trading higher this morning as investors resorted to bargain-hunting. The SGX Nifty was up 30 points at 6,057 against its previous close of 6,027.

The market opened steady on unsupportive global cues yesterday. Choppy trading on the futures and options (F&O) contract expiry day saw the indices dipping in and out of the red on a couple of occasions. The weekly inflation numbers pushed the market to the day's lows but a splendid recovery at the fag end of the session resulted in a close above the crucial levels. The Sensex closed at 20,069, up 112.78 points (0.57%), off its mid-session high of 20,114. The Nifty settled 38.65 points (0.65%) higher at 6,030.

The US markets took a breather on Thursday after the recent gains, despite strong economic data. The Institute for Supply Management-Chicago’s business barometer rose to 60.4 in September, beating analysts’ expectations. The number of applications filing for jobless benefits fell by 16,000 to 453,000 in the week ended 25th September while unemployment rose to 9.6%.  This apart, the economy grew at a 1.7% annual rate in the second quarter, revised figures from the Commerce Department showed. The increase in gross domestic product compares with a 1.6% estimate issued last month.

The Dow fell 47.23 points (0.44%) to 10,788. The S&P 500 fell 3.53 points (0.31%) to 1,141. The Nasdaq fell 7.94 points (0.33%) to 2,368.

Markets in Asia were trading higher this morning as investors resorted to bargain-hunting, picking up stocks at lower values. In economic news, China's official manufacturing Purchasing Managers' Index for September improved to 53.8, compared with 51.7 in August while Japan’s August core consumer price index fell 1.0% on year, compared with a 1.1% drop in July, marking the eighteenth-straight month of decline. Upbeat data from the US also aided the gains.

The KLSE Composite gained 0.23%, Nikkei 225 surged 0.91%, Straits Times rose 0.25%, and the Seoul Composite was up 0.31%. On the other hand, Taiwan Weighted shed 0.11% in early trade. Markets are closed in Hong Kong and China for a public holiday.

Commerce and industry minister Anand Sharma on Thursday said the government has received "valuable" suggestions on opening multi-brand retail to foreign direct investment (FDI) and the decision on the issue will be guided by national interest.

The Department of Industrial Policy and Promotion (DIPP), under Mr Sharma's charge, has initiated a debate on the politically sensitive issue of allowing FDI in the multi-brand retail. It has received inputs from different stakeholders, besides the wings of the government, on the concept paper which was floated in July.


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