You will hate this advice. But in a few months or years, it could pay off many times over.
The set up is about as good as they come.
CNN warns “more trouble ahead” for these stocks.
The Business Standard says they’re “in for a lot of pain.”
The Economist says they’re “cratering.”
The New York Times says, “For more than a decade, investors loved them. Now many seem to fear them.”
These are magic words for investors looking to buy cheap.
Here’s the situation.
This Always Happens at the Bottom
All the fear, panic, and low expectations are surrounding emerging markets.
It’s no secret, the mighty BRICs have fallen. The bellwether MSCI Emerging Markets Index (EEF) is down 15% so far this year. And leading the way down is the once hot markets in China, Brazil, and India.
Meanwhile the S&P 500 is up 15% so far this year. That makes the decline in emerging markets look even worse.
Now the financial media has jumped on the bandwagon and is, as we expect after a sizeable decline, calling for their demise.
Of course, the one constant in all markets, up or down, is most investors will do the wrong thing at the wrong time.
That’s why we watch fund flows to see what the “dumb money” is doing. It’s the best way to know when to do the exact opposite.
It doesn’t take long to see the majority of investors are throwing in the towel on emerging markets now too.
Researchers at the top European bank Societe Generale have published the following charts on fund flows of emerging markets funds.
The first chart shows the jerky boom and bust nature of investors’ interest in emerging market stocks:
Investors’ actions closely resemble the value of emerging markets stocks. When they were crushed in 2008, there was net selling. When they were up in 2010, there was net buying.
This trend is even more pronounced in another sector of emerging markets investments that could be much more destructive for these markets.
The second chart shows the real panic in emerging markets bond funds:
It’s clear investors are pulling money out of emerging markets bonds faster than they did at the height of the credit crisis in 2008.
That is true panic level selling.
But here’s the thing. Since they’re selling bonds so fast, interest rates are rising even faster in emerging markets than they are in the United States.
The result will be, just like it is here, that it’s tougher for companies to get financing to build new factories, hire more workers, and keep the virtuous cycle of economic growth going.
It’s bad all the way around. But there’s another indicator that confirms emerging markets are completely out of favor (and potentially ripe for Cheap Investors!).
Most Investors Love Bad Advice
The second indicator is comes from book sales.
Yes, book sales. Bear with me.
I can tell you from 30 years of writing (and selling) an investment newsletter, it’s a lot easier to sell bad advice than good advice.
Tomorrow I could write an article and get a lot of new subscribers and more traffic to The Cheap Investor web site.
All I’d have to do predict further declines for emerging markets. Or make a case why Tesla (TSLA), the hottest stock in the market, is going to quadruple from here.
This advice is quite terrible. It would cost my readers a fortune. But plenty of new readers would pour in.
On the other hand, writing about a rebound in gold, the dreadful bear market in coal stocks, or the ongoing bull markets in bank and biotech stocks, will not win me millions of followers, but it would help readers make money.
In this business (and in life) I’d say it’s much better to have a few thousand satisfied readers that we can enjoy each other (and the profits from our investments) for years to come than ten times more unsatisfied readers.
With that in mind, let’s get back to the book sales indicator.
One of the most recent bestsellers in the finance and investing section is a book called Breakout Nations: In Pursuit of the Next Economic Miracles.
The publisher of the book describes it as:
In Breakout Nations [author Ruchir Sharma] shows why the economic ‘mania’ of the twenty-first century, with its unshakeable faith in the power of emerging markets – especially China – to continue growing at the astoundingly rapid and uniform pace of the last decade, is wrong. The next economic success stories will not be where we think they are.
Since the books release in April it has made it to the top of almost every bestseller list. It went into its second printing weeks after its release. And on Amazon, there aren’t even new hardcover editions for sale.
That’s a big seller for sure. But history shows it’s more likely to end up alongside many other top selling investing books rather than be a classic like Seth Klarman’s Margin of Safety (currently available for $1,979.95 at Amazon).
Consider these past best sellers.
In June 2009, three months into one of the greatest rallies in financial market history, House of Cards: A Tale of Hubris and Wretched Excess on Wall Street was a top seller.
In September 1999, six months before the tech bubble imploded, copies of Dow 36,000: The New Strategy for Profiting From the Coming Rise in the Stock Market were flying off the shelves.
And in 1980, right before a 20-year bull market in stocks and one of the longest periods of growth in global market history, Crisis Investing: Opportunities and Profits in the Coming Great Depression was at the top of bestseller lists.
There are many more, but you get the point.
On the Ground…
In the end, regardless of how those two indicators consistently market the bottoms, they are still nothing more than anecdotal evidence.
In The Cheap Investor we focus on the hard numbers for individual stock recommendations.
We look for stocks with low P/E ratios, in sectors that are completely out of favor, and have usually fallen 80% or more from their previous highs.
The anecdotal evidence just provides an extra layer of proof that we’re going against the herd. It supports the hard research and lets you know you’re making the right move.
So I’m glad to tell you that in the next Profit Alert we’ll be taking a look at the tale of the tape for a few hard hit emerging markets which, despite the downturn, are cheap and poised for a recovery.
Again, most investors will not like what we find. But that’s why most of them don’t make money and we do.
Yours in success,
Bill Mathews
Editor and Founder, The Cheap Investor