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Time to shine for developing markets as oil turns ugly

09 February 2015 Jonathan Faurie

The investment industry has seen some amazing changes over the past few years. The growth in China over the past few years has given Asian growth markets major mobility. This came at a cost to developed markets who have been major casualties in this change. Many investors shied away from the US because they simply believed that the fragilities of the market had been exposed and that the market was not what it once was.

This has largely been the story of this decade, and it is reasonable to ask whether it will continue. Many investors believe that this is the case, especially if the competition in the oil market continues.

Oil fragility

At the beginning of the decade, when oil was trading at well over a $100 a barrel, it is assumed that investors would never have discussed the fragility of the commodity. Yet, the reality is that oil is a fragile investment. Prices are at a record low (the period from 2010 until now), and comments from Al-Waleed bin Talal – an Arabic business magnate, dubbed the Arabian Warren Buffet – suggest that the price of oil will never reach a $100 for a barrel ever again.

The dynamics that are causing this fragility is interesting. The US has been a major consumer of oil for a long time and has been dependent on the commodity to drive its growth. However, the country is on a mission to forge ahead with its shale gas mining programme, which means that the country will be less dependent on oil.

This does not mean that production has stopped. Saudi Arabia, who is a major player in the Organisation of the Petroleum Exporting Countries, has not cut production in fears of losing its position as the world’s top oil supplier.

Jarrod Cahn, Portfolio Manager at Credo Capital, pointed out that this is not doing the commodity any favours. Supply is currently outstripping demand, so the current situation is a supply led shock rather than a demand led shock.

This has a significant impact on countries in the developed world. Many countries, such as Saudi Arabia, depend on oil to fund their growth. Looking at the Fortune Global 500’s most profitable companies in the world, it is evident that three petroleum companies – Chevron, Shell, and the world’s most profitable company Exxon Mobil – are all included in the top ten of this prestigious list. These companies have largely been dependent on oil for their success.

Emerging market joy

Since the global economic crisis, emerging markets have been on the lookout for the perfect storm in the market which would give them an opportunity to increase their growth while decreasing their current account deficits. Matthias Hoppe, Senior Vice President Portfolio Manager at Franklin Templeton Solutions, pointed out that net importers of oil will be very pleased with the current situation.

Looking purely at developing countries, China’s current account deficit can improve by 0.8% because of the low oil price, while South Africa’s situation can improve by 1.5%. Thailand will be the greatest benefactor as the situation can improve by 3.8%.

Decreasing South Africa’s current account deficit has been a perpetual thorn in the side and has been the catalyst of the country’s high unemployment rate. The majority of South Africa’s income needs to be dedicated to decreasing debt levels and very little can be spared for employment growth, perhaps this is the break that the country needs to forge ahead with these plans.

Where to find value

It is no secret that developing markets have been outperforming developed markets since 2012. Perhaps the austerity measures and the pragmatic approach that developed markets naturally ingrain into their systems contribute to this, but they now look set to benefit significantly from this approach.

Out of all of the markets in the world, Hoppe pointed out that Asia looks promising. While he urges investors to be selective in their approach to Asia, the growth aspirations of China and Japan should be attractive enough. He mentioned that this is because of the stronger internal dynamics which are driving Asian markets as well as the fact that they will do well with the lower oil price.

While Hoppe is optimistic about Asian growth, he is not too confident over Latin American growth. He pointed out that there is a specific reason why Franklin Templeton is underweight in that region. There is good growth in Mexico, and Brazil could prove promising if the country implements some significant structural reforms into its economy, but Venezuela – which relies on oil exports to drive its economy – will dampen the region.

Editor’s Thoughts:
While many experts are confident that the oil price will be kept at low levels for the rest of the year, it only takes one global incident to increase the demand, which would see prices driven up. If we look at the principle of buying low to sell high, perhaps value could be found in markets that the rest of the world is avoiding. Please comment below, interact with us on Twitter at @fanews_online or email me your thoughts [email protected].

Comments

Added by Julius Strydom, 09 Feb 2015
You have written about two subjects. My opinion on oil is worth nothing because, like gold, I believe there are just a few people in the world who really know what the critical factors are.
So, just a question: is this not just Opec trying to close down the fracking businesses in the USA? They may be gambling on those businesses never starting up again.
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