Emerging markets, especially those in the Asian region, are now becoming an investment hotspot for businesses worldwide. Economies such as India, China and Mexico are now being eyed by top shot business houses for business expansion and diversification. So what is it that is attracting investment from the global industry to these markets? Let’s take a look.
Emerging economies are those of the lesser developed countries that have witnessed a spurt in economic growth due to an increase in the earning potential of its citizens, increase in their living standards and an increase in the economic growth. The stability of the local currency too is an important factor that determines the position of a region as an emerging economy.
Investing in an emerging market comes with its own pros and cons. While for long term investors, emerging markets can be a great payoff, for short term investors the risk is quite high. Usually, emerging markets impose stringent stipulations on foreign investment and a cap on the number of shares that a foreign investor can have in a domestic business entity. Foreign investors may also be subject to higher taxation and higher currency risk.
The Asian market is now being eyed as an investment hotspot. However, there are risks associated with expansion. Close knit trade ties result in great currency volatility in these markets. For instance in the period from late 1997 to 1999, the Thai government had to devalue its currency, the baht, in the face of budget shortage and fiscal deposit. This had its ramifications on currencies in Malaysia and Philippines. Furthermore, the effect could be felt in the stretch from Latin America to Russia, due to the trade ties the countries were sharing with the former. It was only after a rescue package was issued by the International Monetary Fund (IMF) that these economies showed signs of revival.
The lesson learnt from the Asian crisis was that these markets were highly volatile. One of the greatest risks that investors may face is the volatility in currency values. Due to high fluctuations in the exchange rates, the rewards may be much lesser than what you would estimate. However, in countries where the local currency is pegged to the dollar, the exchange rates do not fluctuate violently. However, they are still subject to volatility.
So with all these risks, why do investors still look towards emerging markets for investment? Emerging markets are most beneficial for long term investors who place a time frame of about 10 years or so for their business. The economic fundamentals of emerging markets indicate that since these markets do not move in sync with those of developed countries, their growth rates can indicate a rise, even when those in the developed countries are falling.
Also, they offer a good opportunity for diversification. This way they reduce the risk of a portfolio.
In a nutshell, emerging economiesare an asset class for those businesses that can afford a longer time period and high risk tolerance.