Emerging Market funds are tricky. Do your RESEARCH! A global correction will occur sometime during the 2nd to 3rd quarter of 2014. Knowing that, devise a hedge strategy to short your positions. If anything, Canada with its vast oil reserves in demand is the REAL emerging market. Don't forget to incorporate a currency trade into your emerging market equation. Can you guess which currency I am short?
"Now is the winter of our discontent.” This famous Shakespearian quote is an apt description of the raft of problems plaguing the US economy, including the present political struggle that precipitated the government shutdown.
Many economists believe the Congressional showdown over an elusive budget deal puts the fragile US economic recovery at considerable risk. Economists with Bank of America Merrill Lynch lowered their forecasts for third- and fourth-quarter gross domestic product (GDP) growth because they expect the shutdown will extend another week, resulting in decreased government spending and attendant "significant spillovers into the private sector."
In early October, the bank adopted a 1.7 percent annualized tracking estimate of third-quarter GDP growth as its official forecast, which would mark a slowdown from the second quarter's 2.5 percent annualized pace. It also lowered its fourth-quarter estimate to 2 percent from 2.5 percent.
And these revised forecasts could be cut even further if legislators fail to come to an agreement on raising the government's debt ceiling by Oct. 17. Goldman Sachs economists forewarn, "We estimate that the minimum pullback in spending that would be required to remain under the debt limit for one month without an increase would be equivalent to 1.7 percent of GDP (annualized)."
Of course, this also means that the Federal Reserve is now much more likely to continue its stimulus well into 2014 in order to shore up the economy, which will keep Treasury rates low for the foreseeable future. And the increased stimulus raises the specter of inflation down the road, which could impact income and growth investments in the US, when the underlying companies, such as regulated utilities, are unable to pass along commodity costs to their customers.
As we have previously chronicled in this column, the US utilities industry is undergoing a state of major transformation due to declining demand in its service territories from lower economic activity, disruption from renewable technologies, and the impact from changing market fundamentals in natural gas. Additionally, many utilities must still make substantial capital expenditures to replace aging infrastructure, while the regulatory environment is being tested to accommodate sometimes costly new additions that put pressure on rates.
Although we have viewed these fundamental changes as an opportunity to identify the next generation of utilities that are poised to thrive in this new environment, the overall weak economic environment in the US demands a diversification strategy for investors seeking to preserve and grow wealth.
While emerging markets have their own set of risks, there is no better time to pursue income and growth investments in various regions around the world. Indeed, many emerging market stocks remain undervalued following the summer selloff, when investors overreacted to Federal Reserve Chairman Ben Bernanke's tapering comments and pulled their money from overseas investments with the expectation that Treasury rates would soon rise.
But the Federal Reserve's accommodative stance, along with its announcement in September that it had decided to continue its stimulus program, prompted investors to return to the emerging markets, as evidenced by upward momentum in the iShares Core MSCI Emerging Markets ETF (NYSE: IEMG), iShares MSCI Emerging Markets Consumer Discretionary ETF (NYSE: EMDI), and iShares MSCI Emerging Markets Latin America ETF (NYSE: EEML).
Chart A: Renewed Vigor in the Emerging Markets
Where are the global growth and income opportunities for utility investors? The best indicators come from small- and medium-sized US business owners, as shown in a recent survey of chief financial officers and other senior executives conducted by the consultancy High Street Partners.
Entitled "Pushing the Boundaries of Overseas Expansion,” the survey indicates that with growth still sluggish in certain US market sectors, executives are targeting overseas opportunities to achieve the growth they desire. Of the 121 executives at companies with revenues between $50 million and $1 billion, nearly two-thirds reported they expect to expand their international initiatives in the coming year. Three-quarters of the respondents are interested in overseas business primarily to increase revenues or gain customers, rather than reduce costs.
Even more--83 percent--expect international markets either will be among the top priorities for their companies over the next three years, or at least will become more important than they are now. And in three years, 95 percent of respondents expect to have customers in at least two foreign countries.
What's particularly telling is that smaller companies are typically more sensitive to changes in the economic cycle than larger firms. The fact that they are planning major international expansions over the next three years suggests an implicit forecast on when they expect robust US economic growth to return.
The majority of executives surveyed expressed greater comfort with operating in developed economies similar to their own, with Europe and Australia considered on par with North America in terms of ease of conducting business.
Chart B: The World's Shifting Corporate Landscape
Confirming the instincts of US business executives, a report by McKinsey Global Institute shows that the world's corporate landscape is shifting toward the emerging markets, with nearly half of the global Fortune 500 companies likely to be based in developing countries by 2025 (See Chart B). A related shift is just beginning to gather force, and it has the potential to redraw the world's business map and rewrite the rule book on global corporate competition.
"As Japanese and South Korean companies became formidable global competitors in the past half century, new players from emerging markets such as Chinese telecom networking giant Huawei, Brazilian aircraft manufacturer Embraer and India's industrial conglomerate Aditya Birla Group are asserting their presence," the report stated, adding "many more are soon to follow."
By 2025, McKinsey projects there will be 15,000 large companies (with annual revenue of over USD1 billion) worldwide, out of which 46 percent could be based in emerging markets, up from 5 percent in 1990 and 27 percent in 2010.