Investing in emerging markets the road ahead

But the company, which gets about 42 percent of its sales in emerging markets, is betting big that the growing middle class in developing nations will be a driver of growth for years to come. In April , our call was Dollar Bottoming. Morgan Emerging Market Currency Index : On Friday, it cut its outlook to account for the closure of 50 underperforming stores in the Brazilian and Chinese markets.

Threats to Reform

Given the myriad sources of geopolitical uncertainty that have cropped up on the horizon, it madkets seem only prudent to proceed with caution. Nevertheless, the path ahead would appear to be compelling for those willing to navigate the road. Shrugging off a frankly challengingemerging market equities have been on a mrkets steady upward trajectory in recent months. In July, the EM index posted its best monthly performance since December In fact, compared to other global assets classes, emerging market equities have been a top performer year-to-date.

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Emerging markets often seem to offer to provide new investment opportunities, their elevated economic growth rates offering higher expected returns —not to mention the benefits of diversification. But there are a number of risks that potential investors should be aware of before planting seeds of their capital in one of these up-and-comers. Foreign investments in stocks and bonds will typically produce returns in the local currency. As a result, investors will have to convert this local currency back into their domestic currency. An American who purchases a Brazilian stock in Brazil will have to buy and sell the security using the Brazilian real.

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Emerging markets often seem to offer to provide new investment opportunities, their elevated economic growth rates offering higher expected returns —not to mention the benefits of diversification.

But there are a number of risks that potential investors should be aware of before planting seeds of their capital in one of these up-and-comers. Foreign investments in stocks and bonds will typically produce returns in the local currency.

As a result, investors will have to convert this local currency back into their domestic currency. An American who purchases a Brazilian stock in Brazil will have to buy and sell the security using the Brazilian real. Therefore, currency fluctuations can impact the total return of the investment.

As a result, financial models can be used to price derivatives and make somewhat accurate economic forecasts about the future of equity prices. Emerging market securities, on the other hand, cannot be valuated using the same type of mean- variance analysis.

Also, because emerging markets are undergoing constant changes, it is almost impossible to utilize historical information in order to draw proper correlations between events and returns. Insider trading and various forms of market manipulation introduce market inefficiencieswhereby equity prices will significantly deviate from their intrinsic value.

Such a system can be subject to extreme speculation, and can also be heavily controlled by those holding privileged information. This market imperfection results in higher broker fees and an increased level of price uncertainty. Illiquid markets prevent investors from realizing the benefits of fast transactions.

A poorly developed banking system will prevent firms from having the access to financing that is required to grow their businesses. Therefore, financial systems found in developed nations do not allow companies to undertake a higher variety of profit-generating projects. A solid corporate governance structure within any organization is correlated with positive stock returns.

Emerging markets sometimes have weaker corporate governance systems, whereby management, or even the government, has a greater voice in the firm than shareholders. Furthermore, when countries have restrictions on corporate takeoversmanagement does not have the same level of incentive to perform in order to maintain job security.

While corporate governance in the emerging markets has a long road to go before being considered fully effective by North American standards, many countries are showing improvements in this area in order to gain access to cheaper international financing.

A poor system of checks and balances and weaker accounting audit procedures increase the chance of corporate bankruptcy. Of course, bankruptcy is common in every economy, but such risks are most common outside of the developed world. Within emerging markets, firms can more freely cook the books to give an extended picture of profitability.

Once the corporation is exposed, it experiences a sudden drop in value. Because emerging markets are viewed as investing in emerging markets the road ahead riskier, they have to issue bonds that pay higher interest rates. The increased debt burden further increases borrowing costs and strengthens the potential for bankruptcy. Still, this asset class has left much of its unstable past.

Investing in Emerging Market Debt has rewards to offer. Political risk refers to uncertainty regarding adverse government actions and decisions. Developed nations tend to follow a free market discipline of low government intervention, whereas emerging market businesses are often privatized upon demand.

Some additional factors that contribute to political risk include the possibility of war, tax increases, loss of subsidychange of market policy, inability to control inflation and laws regarding resource extraction. Major political instability can also result in civil war and a shutdown of industry, as workers either refuse or are no longer able to do their jobs. Investing in emerging markets can produce substantial returns to one’s portfolio. However, investors must be aware that all high returns must be judged within the risk-and-reward framework.

The challenge for investors is to find ways to cash in on an emerging market’s growth while avoiding exposure to its volatility and other drawbacks. The aforementioned risks are some of the most prevalent that must be assessed prior to investing.

Unfortunately, however, the premiums associated with these risks can often only be estimated, rather than determined on a concrete basis.

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Non-Normal Distributions. Lax Insider Trading Restrictions. Lack of Liquidity. Difficulty Investing in emerging markets the road ahead Capital. Poor Corporate Governance. Increased Chances of Bankruptcy. Political Risk. The Bottom Line. Key Takeaways Emerging markets have been one of the hottest investment areas since the early s, with new funds and investments popping up all the time. While there is no doubt that lucrative gains may await investors that can find the right emerging market investment at the right time, the risks involved are sometimes understated.

With high-risk, high-reward investments, you need to understand and evaluate each of the risks specific to emerging markets before jumping in.

Compare Investment Accounts. The offers that appear in this table are from partnerships from which Investopedia receives compensation. Related Articles. Gold Gold: The Other Currency. Partner Links. Related Terms Emerging Market Economy Definition An emerging market economy is one in which the country is becoming a developed nation and is determined through many socio-economic factors. Frontier Markets Definition Frontier markets are less advanced capital markets in the developing world.

Emerging Market Fund An emerging market fund invests the majority of its assets in securities from countries with economies that are considered to be emerging. International Investing Definition International investing is an investing strategy that involves selecting global investment instruments as part of an investment portfolio. Risk Risk takes on many forms but is broadly categorized as the chance an outcome or investment’s actual return will differ from the expected outcome or return.

Legendary investor Mark Mobius on the top emerging markets

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The volatility is also an opportunity for deep-pocketed players looking to up the ante in emerging markets. You have been added to our Market Brief. Qualified Investor. The company has taken steps in countries where currency devaluations had occurred to recoup dollar-based raw materials costs. On Friday, it cut its outlook to account for the closure of 50 underperforming stores in the Brazilian and Chinese markets. Investing in emerging markets the road ahead make no representations about the accuracy or completeness of the information contained in any external sites and assume no liability of the content or presentation of external sites. United Ivnesting. In Aprilour call was Dollar Bottoming. Check Out. The road ahead gets increasingly difficult for Emerging Markets. United States. Additionally, the strategies and funds may not be available to all investor types in all jurisdictions. Leave Wall Street in the dust. Our call on Emerging Markets is far from .