I have a personal policy of never paying for newspapers because I find the content and analysis (regarding investment management and emerging market countries) generally weak and biased.
Recently, I have found that three emerging countries – Brazil, Russia and Turkey – are occupying disproportionate space in the headlines. Since I follow these countries on a regular basis, I thought it would be interesting to review the reasons for their being in the limelight as representatives of the emerging markets.
Everybody in the investment community is talking about Brazil as if it were AAA rated (it is BBB). GDP growth of 7.5% in 2010 helped form that view. But growth sputtered to 2.8% in 2011 and is forecast to improve slightly to 3% in 2012, but I doubt it. Oil findings and mineral exports were a great force behind those numbers.
But let’s consider that the 2010 numbers were suspiciously helpful in maintaining Lula’s image, which in turn buoyed the next Workers’ Party candidate for president, Dilma Rousseff, who is now in power. With virtually no opposition, Lula’s favourite was easily elected despite having negligible political experience.
She has already had to fire seven of her ministers amidst scandals, a feat that would not have allowed her a long time in office elsewhere. However, amidst the euphoria foreign investors were wooed into numerous IPOs and creative investment opportunities, helping to balance accounts (current account -2.2% in 2010 and -3% in 2011).
And to add injury to the insult…
Somehow, Brazil managed to align the right stars and will be hosting both the 2014 Football World Cup and the 2016 Olympic Games. Need I say more about corruption?
Yes! I could not end without my coup de grace. Do you remember analysts’ claims that Argentinean inflation was wrongly understated? Well, 6.5% (reported) is certainly not how it feels in Brazil these days. Restaurant meals, construction materials, fuel, even bikinis are offered at such stratospheric levels that Brazilians travel abroad just to shop.
It pays off handsomely, with the benefit of having goods that are better produced by more efficient workers. Can we believe in the numbers or are they fictitious? The usual explanation for the high price level is: high taxes. The magic question then is: where are those taxes going?
Is there a home bias or is there a common thread amongst the three countries?
Enter Turkey’s Erdogan
Turkey does not have oil and that hurts. Since Europe is not too keen on Turkey’s entry into the Union, especially after PM Erdogan’s abrupt exit from an event in Davos, the ruling party found a solution to economic growth: diversifying its textile and primary goods economy into industrial products as well as diversifying its trading partnerships to include more countries in the Middle East (under the curious pretence of religion).
The result was excellent: GDP grew at 8.9% in 2010 and 8.2% in 2011. Unfortunately, GDP is forecast to grow a meagre 2.5% in 2012. However, the ruling party does not face re-election soon, continues to witch hunt those who once had its leaders exiled and curiously has managed to eliminate virtually all opposition from the press.
Middle Eastern investors were seduced to invest in Turkey, which will likely help the economy. The jury is still out but how about corruption?
Well, if you thought the number of unreported swimming pools was shocking in Athens, imagine how often I am asked if I am paying in cash (no receipt, lower price) or if I want a receipt and am willing to pay a higher price (tax added) when in Turkey.
Was I in Brazil without realising it?
It is not as cold in Continental Europe during winter as it can be in Russia. But it is still cold. Russia is in the enviable position of being Europe’s most conveniently placed supplier of gas and politicians there know it and have developed Gazprom to serve that market.
Profits are gigantic so it’s no surprise that many Russians claim the government is using energy proceeds to finance its staying in power. Since the opposition is virtually silent, the current regime is likely to remain in power.
Interestingly, many say that investment in infrastructure is badly needed but is instead channelled to politicians. That seems to be a common thread amongst our three countries. However, much has been accomplished since the Yeltsin times and at least some credit is due to Vladimir Putin for having managed the transformation.
Weighed down by BRICs
My first conclusion after looking at those three countries is that in all of them, the famous BRIC elements are present: Barrels, Re-election, Investment (Inflation), Corruption. These themes seem to be present in most emerging countries that I have reviewed and seem the norm these days amongst index favourites.
My second conclusion is that these countries offer investors yields that are too low, given the conditions I described. Their long-dated bonds yield between 5 and 6% these days.
In the past, such characteristics would require much higher external bond yields. I suspect the current levels are highly correlated to the countries’ improved economic situation. But investors deserve better yields and fund managers can provide this by adding more spice to the low-yielding mix.
In a recent meeting with investors, I was almost hanged when I suggested a larger allocation to Venezuela would bring better returns with similar types of risks. Unfortunately, risk in emerging countries is not correctly advertised by the press and analysts and is a loss to investors. Though I respect their views, in 2012 so far, the only game in town has been Venezuela. Maybe that will kick-start a change.
Since the BRIC acronym only really related well to equities (no easily investible fixed income is available in India), I wish to open the lines and ask: what acronym would you use for emerging bonds?
Raphael Kassin’s consultancy firm, Mirage Capital, advises on emerging market investment.
This article originally appeared in the March 2012 edition of Citywire Global magazine.