Consumers are the driving force behind any economy. Developed markets have a well developed stable consumer base and other expanding markets (emerging markets) have a consumer base which is rapidly multiplying its purchasing power.
The spending habits of the two consumer groups are very varied. First of all, expanding markets are a cluster of over 150 countries distributed throughout the globe, with varied economic systems and spending habits influenced by local cultures. This variety provides immense diversification for an investor. The collapse of the housing bubble leading to the subprime mess, resulting in huge write offs from big banks, has highlighted the differences between developed and expanding markets.
It appears that the major brunt of the credit crisis is being taken by North America and western Europe; pumping billions of dollars and euros into the financial system for last several months does not seem to be working. I believe that what we have seen until now is only tip of the iceberg and that things will get worse before getting better, for several reasons. The most important reason is that the financial system of the developed world is highly leveraged with credit lines, may it be banks, big or small, or consumers. Some of the companies have even been giving dividends on borrowed money. When we borrow money, consume it and enjoy, it is equivalent to taking a bite out of our future. The mantra of this time has been "borrow, buy and spend."
However, times have changed. Credit has been piling up, leading to mountainous piles of debt. It will take long time to clean up the credit mess, way beyond 2008. So much importance is being given to consumers in the western markets that it looks like if there will be slowdown in economy in the west, it will inevitability lead to contraction slowing and expanding markets, too.
So the important question is, are we heading into a global recession as predicted by some pundits or into the next phase of global expansion? As I have argued before (here, here and here), I believe we are entering into a phase of exponential growth in expanding economies.
- In expanding economies, wealthy people and governments (e.g. sovereign wealth funds) alike have quietly stashed big heaps of cash during last 7-8 years, driven by demand for their raw materials, including oil, export oriented manufactured goods, and services. It is more likely that they will invest their money in expanding markets since they are familiar with those markets; besides, those markets have been having bumper yields during last few years.
- A major part of global manufacturing has been relocated to expanding markets, including low cost/labor intensive goods as well as competitive high end products. So the expanding markets are both manufactures and consumers at the same time, not to mention the export of raw materials and a growing investor class. These factors will provide a steady source of economic stabilization.
- Consumers in expanding economies are using credit more and more for the gratification of their immediate needs, however the major part of the consumer base is cash, meaning they do not borrow that much to buy goods. Most of the time, borrowing is between the relatives or friends. Therefore, it will take a long time for those economies to reach a level where the credit problem will threaten the vitality of economic system.
For the above reasons, and reasons I cited in previous articles, I believe that 2008 will be a year of bumper yield for stock markets of the expanding economies of Asia, South America and Africa.
Disclosure: Author holds positions in related securities.