Now could be the time to get back into undervalued markets such as Brazil, Russia, Vietnam, Mexico whose economies have run up in conjunction with the commodity boom.
The emerging market turnaround comes at a time when commodity prices are falling off their multi-year average highs.
By now you may be asking yourself: “If emerging markets are driven by rising commodity prices, and now those prices are falling, how could that make for a good investment?”
Well, you can answer that question with a single word: inflation.
You see, the over-the-top prices of commodities such as oil, natural gas, metals and grains have made staples such as gas and food too expensive for consumers to afford. In effect, the same forces that have buffeted the U.S. economy also hit poorer countries just as they were climbing out of decades of severe poverty.
You have already seen the effects of inflation in the food and gas riots that plagued Europe, Asia and the Caribbean. Diesel fuel, rice and corn rose so quickly, they jeopardized the survival of many people who were managing to get by.
For those countries, the margin of recovery is thinner than the U.S. For example, many emerging-market consumers live on cash. They often can’t get through the month by handing the cashier a credit card.
So as the global economy shrinks due to an anemic U.S. dollar, inflated cost-of-living expenses and the failure of the international banking system, it’s the people on the edge who fall off first. They simply stop buying extravagances like TVs, better furniture and motor scooters — the kinds of things that stimulate the local economy. Naturally, as consumers stop buying the economies contract and take down the stock markets.
But now we’re seeing a sharp drop in commodity prices — raising expectations that inflation has already peaked.
Oil dropped $1.24 a barrel on Friday to close at $113.77, 22% lower than its record price earlier this year. Rice, a staple for the developing world, is down some 40% since May. Palm oil (used for cooking), is down a comparable amount since peaking in March. At the same time, wheat, copper and a many other commodities also have seen significant declines.
Of course, these commodity drops mean that some developing countries will lose windfall revenues. The good news, however, is that ordinary citizens can get back on their feet and start spending money on both essentials and incidental luxuries.
The big caveat to this thinking is that commodity prices plunge too far and the workers in the oil fields, coal mines and offshore rigs start to lose their jobs and again find themselves with no pocket money.
Could this really happen? Yes. But if it does, the effects probably won’t be felt for a while. That means the window is still open for emerging market investors to make their play.