by Hans Wagner

2/32/2010

Emerging markets, especially China, Brazil, India, much of Asia and other parts of Latin America will lead the rest of the world in economic growth. As a multi-year trend, this is continuation of one of the best investing themes from 2009. Demand for commodities such as copper and steel will be critical for this growth. The economic growth of these countries is encouraging the emergence of a new middle class.

For example, the World Bank estimates that the global middle class is likely to grow from 430 million in 2000 to 1.15 billion in 2030. The bank defines the middle class as earners making between $10 and $20 a day, adjusted for local prices. This is roughly the range of average incomes between Brazil ($10) and Italy ($20). South Korea has rebounded from the recession and will once again be a leading economic power in the region.

Asia and Latin America Drive Growth

We are looking for the emerging markets to grow significantly in 2010 with China coming in at 9-10%, India in at 7-8%, Russia and Brazil in the 5% range. This growth comes from government economic stimulus as well as more spending by consumers and business.

In China, economists expect the country's "middle class" will exceed the total population of the United States by 2015. Overtaking the United States, more than 12.7 million cars and trucks will be sold in China this year, up 44 percent from the previous year and surpassing the 10.3 million forecast in the U.S., according to J.D. Power and Associates.

India’s economy has produced a 250 million strong middle class that is just beginning to consumer goods.

For investors, the expansion of the middle class in these countries will spur demand for consumer goods and better food, leading to more trade that encourages exports from the U.S. It also will help multi-national companies that are aligned with these growth waves to see stronger growth.

The commodity, industrial, and energy sectors should benefit as they provide many of the products for the emerging countries. Demand for technology products will increase, especially anything to do with wireless communication.

This demand for commodities will help drive growth in Latin America, especially Brazil, Argentina, and Chile. China has been developing relationships with a number of Latin American countries to help secure long-term access to commodities and agriculture products. This will show up in better than average GDP growth for several Latin American countries.

Finally, helping to drive the value of the emerging markets will be the structural weakness of the developed countries due to their large and growing debt problems. Investors will seek higher returns by moving their capital to countries and companies that have better long-term growth prospects.

Risks from Emerging Markets

As with any investment strategy, it is best to understand the risks you face before making a commitment. That way you can develop appropriate contingency plans and hedges should the risk become reality. Investing in emerging markets involves four risks:

• Government Budgets become more difficult to fund. Should the governments find it more difficult to fund their growing deficits, interest rates will rise higher than many expect. As a result, it will curtail any further economic growth. Action to take: Monitor interest rates over time to see if they stay within expected levels or suddenly rise. If rates rise, be prepared to reduce your exposure to the emerging markets.
• China revalues the Renminbi (RMB). Should China revalue their currency, it will increase the cost of their exports and lower the cost of their imports, assuming all other prices remain the same. A higher price on China’s exports means all the goods imports from China to the US will cost more. Action to take: Most likely any revaluation will be small, as China does not want to risk hurting their export-oriented economy. Monitor news reports relating this potential and be ready to reduce your exposure to China should this become likely.
• Central Banks tighten credit earlier than many think. Should the central banks tighten their credit sooner than many expect, investors should expect the cost of money to rise more rapidly, slowing growth. Action to take: the Federal Reserve is trying to telegraph their actions in advance. Monitor their communications to identify when and by how much they might tighten credit. Small changes should be expected and will not cause a problem. If the U.S. economy recovers faster and achieves higher growth rates than many expect, the likelihood of tighter credit grows.
• U.S. economic recovery fades. If the U.S. economy slows or does not achieve the expected 3.0% growth, meager as it is, it will act as a break on the growth of the rest of the world, slowing their growth as well. Action to take: Monitor growth of the U.S economy, especially reported earnings. If earnings and revenue growth do not achieve expectations, it is an early sign that growth in the economy may be slowing. Also, monitor the jog picture. If the economy is unable to generate positive job growth, it is another sign that the recovery in the U.S. is floundering.

Investing in the emerging markets, offers investors the best opportunities for 2010. Look to the ETFs that concentrate in the emerging market countries mentioned as well as companies that have substantial exposure to these countries.

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