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The emerging markets bear trap

Part 4
The emerging markets bear trap (Part 4 of 4)

Must-know: Emerging market investments you should pursue

Russia

Out of the four BRICs, only Russia is remotely attractive. While it doesn’t have all its ducks aligned, it’s certainly the better of the four given a few positive macroeconomic data points.

Russia (<a href='/quote-page/rsx/'>RSX</a>) vs S&amp;P500 (SPY) 2013-10-11Enlarge Graph

Slack in monetary policy

Russia recently posted updated inflation numbers that hint towards the feasibility of financial stimulus. The September inflation data came at 6.1%, which is just over the 5%-to-6% target range. This would allow the government to lower interest rates to stimulate the economy.

Must-know: Emerging market investments you should pursueEnlarge Graph

But it’s likely the government won’t drop the rates in October and will wait a little longer before pulling the trigger. The core inflation number was a little flat due to the weaker currency inflating prices, and it’s uncertain how this may move in the short term.

Strong domestic demand

The inflation data as well as the reduced trade deficit point towards a very strong domestic demand. Consumer spending is very important to cushion the economy from external shocks, as it makes it more self-sustained.

However, keep in mind this was the same situation in China and Brazil and the problem is that when the currency weakens, purchasing power decreases and consumer demand is hurt. This means that while Russia is currently benefiting from strong domestic demand, there’s no guarantee on how long this may last.

Russia Manufacturing PMI 2013-10-11Enlarge Graph

Not all is positive

The September PMI moved below 50, implying contraction in manufacturing. The main driver was the drop in exports, which reduced production and continued the negative pressure on employment.

Weaker employment could hurt consumer demand, and in the absence of financial stimulus, things could get ugly. As long as inflation remains in check—which, given the foreign exchange pressures, isn’t a sure thing—then the government can stimulate the economy.

Overall, it seems there could be more upside than downside, but that’s over a medium-to-long-term horizon. In the short term, like by end of year, the situation can be very volatile.

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