Taking advantage of Emerging Markets turmoil

Let’s focus on the positives. The current turmoil in Emerging markets is not all bad. It is also throwing up some good opportunities for investors. Let us discuss a top down approach to shortlisting EM countries.

A few of my observations about EM economies in last few years are summarized in table below. The table suggests which emerging markets will do well in different scenarios of economic growth (rows) and monetary policy (columns) in developed markets (DM).

	Easy DM monetary policy	Tight  DM monetary policy
DM economic growth high	All EM	Export oriented
DM economic growth low	Domestic demand	No one rule applies

When developed markets have high growth rate, export oriented emerging market countries benefit the most and grow fast. In the flip scenario exporting countries are hurt the most. When DM central banks are going around dropping money from helicopters, their monetary policy also influences EM growth. In times of easy monetary policy, money flows in to all EM countries, and all see outflow in times of tight policy. The amount of money making these rounds is determined by prevailing DM growth rates.

• The first filter for shortlisting countries comes from this table, depending on our expectation of events in developed markets.
• My views of what makes a country structurally strong determine additional filtering criteria. One is economic driver for EM countries – whether it is domestic consumption, fixed investments or exports. I believe that for long term, EM growth should be driven by exports or fixed investments and slowly transition to domestic demand. A country dependent on domestic consumption for growth should have a high GDP per capita or sustainable income source to fund the consumption. In absence of that, it is risky to invest in such an EM country.
• Then, choose a country which knows what its core competence is, and sticks with it. Such a country will be competitive in its area of strength. Even in an unfavorable economic environment, it can afford to sit out and wait, assuming that domestic finances are managed well. A country which tries to change its economic drivers needs more careful assessment. Iceland is a good case study. The country was mostly engaged in fishing and related industries before its rapid growth and subsequent crisis in 2008. Now it is moving back to its original business and economy is stable. I bias in favor of such countries.
• Another important point to consider is quality of management of economy and country. Credibility of policy is important. Its continuity over political cycles is pure gold. A country with such characteristics will be a good place to invest money irrespective of its short term growth trends.
• Lastly, I also look at social situation in countries. Mass protests for apolitical reasons are sign of popular pain. This may be due to economic, political or social reasons, or a combination of these. Presence of such movements suggests caution in investing in such countries, especially in times of slow global growth.

Using all these filters, some undoubtedly involving qualitative judgment, we will arrive at a short list of EM countries which are potentially good places to invest in.